Private pensions make post-crisis comeback

Romain Despalins, OECD Directorate for Financial and Enterprise Affairs

In 2016, private pension assets reached their highest-ever level at over USD38 trillion in OECD countries, according to Pensions Markets in Focus. Investment losses resulting from the financial crisis have been recouped in almost all reporting OECD countries. However, the low-interest rate environment continues to exert pressure on pension providers through lower yields on the bond portion of their portfolio investments, which may affect their ability to maintain promises to plan members. This has given rise to concerns that pension providers could increase their exposure to riskier investments in a search for potential higher yield.

Funded and private pension arrangements continued to expand in countries such as Australia, Canada, Denmark and the Netherlands where pension assets exceeded the size of the GDP. This reflects a trend which has seen pension assets grow faster than GDP in most countries over the last decade. This trend is most pronounced in countries with large private pension markets.

Pension providers experienced positive real investment rates of return, net of investment expenses, in 2016 in 28 of the 31 reporting OECD countries and 25 of the 32 reporting non-OECD jurisdictions. These rates of investment return were above 2% on average both inside and outside the OECD area. Annual returns were also positive over the last decade in most countries, with the highest average annual real investment rates of return (net of investment expenses) observed in the Dominican Republic (6.3%), Colombia (5.8%) and Slovenia (5.2%).

This new OECD report on trends in the financial performance of private pension plans covers 85 countries. It assesses the amount of assets in funded and private pension plans, describes the way these assets are invested in financial markets, and looks at how investments have performed, both in the past year and over the past decade.

References and links

Read the report at www.oecd.org/pensions/pensionmarketsinfocus.htm

Read the OECD Observer’s roundtable on pensions at http://oe.cd/25M

Visit http://www.oecd.org/finance/private-pensions/

Financial regulation after the crisis: still liberal, but…

Oliver Denk, OECD Directorate for Employment, Labour and Social Affairs, and Gabriel Gomes, OECD Economics Department

In a report issued in June 2017, the Trump administration laid out its proposal for overhauling some of the regulations President Obama had enacted with a view to avoiding a financial market meltdown of the kind we saw in 2008. But what do we actually know about how financial regulation has evolved around the world since the global financial crisis?

Bank supervision has certainly been an active area of reform, not only in the US, but in many other countries. The Basel III accord, the new international regulatory framework for banks that is currently being rolled out, is one well-known testimony. Some countries took less well-publicised action to tighten up supervision, not least when oversight existed institutionally but failed to function properly in practice.

Financial policy, however, goes much beyond bank supervision. It also includes aspects such as credit controls, ease of entry into the banking sector, capital account controls and government ownership of banks. The general picture of the 30 years leading up to the crisis was one of liberalisation of domestic and international capital markets, accompanied by efforts to strengthen frameworks for bank supervision. But the various dimensions of financial policy are rarely assessed together, even though they all matter for financial markets, corporations and households.

This is precisely what we have set out to do, as we explain in our new OECD working paper. In fact, we have assembled a novel dataset on financial policies from 2006 to 2015, by building on an index from the International Monetary Fund. The index by the IMF is the most widely used measure of financial reforms in cross-country empirical research, having been used in some 200 publications. The trouble is the IMF dataset was only available up to 2005–so we have effectively extended it by another 10 years. The index has its strength in covering many different types of financial policies, though it is not overly specific on most dimensions.

What do we find? In some areas, financial policy has become less liberalised since the global crisis. Bank privatisation has seen the strongest break in trend. Governments had reduced their ownership in banks over the one to two decades before the crisis. But since then, recapitalisations in a number of countries have increased government ownership and lowered financial liberalisation in this respect, as the chart below shows.

1.

In other areas, financial liberalisation has more or less stayed the same. Take restrictions to international capital movements. By standard measures, these had largely gone in most advanced economies before the crisis. Today, the developed world as a whole is as financially open as 10 years ago. However, some countries such as Chile, Iceland and Slovenia have tightened their capital account restrictions, even if others like Australia, Korea and Turkey have lifted theirs.

Bank supervision efforts continued to strengthen through the 2000s under the Basel accords. In many countries, this has not only changed how capital requirements are set, but also reinforced the way in which supervisory authorities assess prudential reports and statistical returns from banks through on-site and off-site examinations.

On the whole, our data suggest that the financial crisis has not undone the financial liberalisation that was achieved in the preceding three decades or so. However, it remains to be seen whether the renewed state ownership of banks is part of a temporary post-crisis phenomenon or something longer term. Governments do tend to sell off their stakes in banks when they find the opportunity, and a few countries–Austria is a good example–have now unwound their increased ownership in banks, in some cases thanks to liquidation.

Developments have been quite different for emerging market economies, in particular the BRIICS countries*, where financial liberalisation has continued at the same quite rapid pace as before the global crisis. One reason is that entry barriers into the banking sector have been lowered in some cases; other factors include stronger bank supervision and the deregulation of stock markets. Finance nevertheless remains substantially less liberalised in the BRIICS than the OECD, as the graph below demonstrates.

2.

These are just some of the revelations of our new data, which will hopefully allow the many researchers who have been relying on the IMF dataset for quantifying financial policies to delve into an additional 10 years of observations. This is vital for tracking how policy has affected financial systems and the real economy since the crisis. If you are such a researcher and would like to use the dataset, please contact us at any time.

Further reading

Denk, O. and G. Gomes (2017), “Financial Re-Regulation since the Global Crisis? An Index-Based Assessment”, OECD Economics Department Working Papers, No. 1396, OECD Publishing, Paris

* BRIICS countries are Brazil, Russia, India, Indonesia, China, South Africa.

For globalisation to work for all, you have to level the playing field first

Adrian Blundell-Wignall, Special Advisor to the OECD Secretary-General on Financial and Enterprise Affairs, argues that key corporate and financial issues must be addressed if globalisation is to work better for all. These issues are examined in the new 2017 OECD Business and Finance Outlook.

Today the debate rages about whether the decline in living standards is due to the effects of globalisation or to poor domestic policies. Both have surely played a role. But the problems often associated with globalisation (inequality, the hollowing out of the middle class, employment of less-skilled workers in advanced countries, etc.) do not originate from “openness” as such. The problem is that not all countries are open to the same degree and the playing field in the cross-border activities of businesses is not level.

Since entering WTO in 2001, China has quickly become the largest exporting nation in the world, with 14% of merchandise exports and 18% of manufacturing. Hong Kong (China), Singapore and Korea together export as much as the United States or Germany. Companies may also set up production abroad, closer to foreign markets. China has increasingly joined this model too, and is now responsible for 11% of world merger and acquisition (M&A) outflows in 2016. In recent years it has been switching away from M&A in oil and gas much more towards high technology companies.

In parallel, the number of state-owned enterprises (SOEs) among the Fortune Global 500 companies grew from 9.8% in 2005 to 22.8% in 2014. Most are domiciled in Asia, and the largest among them are Chinese  banks. Distortions, resulting from subsidies and other advantages accorded to SOEs, often coming via cheaper finance from SOE banks, are important. But strong government ownership of shares in emerging economies is present across all industrial sectors. Emerging-market SOEs have greatly contributed to the  current excess capacity in key materials, energy and industrial sectors, contributing to a decline in the  average return on equity in many sectors and countries.

No matter where firms sit in the value chain, penetration of markets by emerging economies evokes responses from companies to move further up the value chain – forcing them to restructure and enhance  technology to remain competitive. If they don’t take advantage of global economies of scale, they will in any case find themselves facing strong competition from other successful firms, whether at home or abroad. The fastest productivity growth companies are also those that take advantage of foreign  sales—whether by exporting or by setting up subsidiaries that produce abroad to serve foreign markets.

There is nothing wrong with success in cross-border activities—provided of course that success is not based on unfair competition.

The leaps in productive potential can be enormous, but all of this requires investment, innovation and new technology. The company data shows that it makes no sense to try to separate these things out. The companies at the forefront of innovation and technology (as reflected in productivity growth) are often multinationals engaged in trade and foreign direct investment—they buy and sell business  segments, set up to produce abroad and the export from multiple global production bases.

The losers in this story—those workers affected by reduced hours, innovative work contracts and compressed wages—belong to companies that are scattered within their own industry. It is not that the  middle class as such is being hollowed out but that these ranks are swelled by those that work for less successful companies forced to restructure or exit.

Some large emerging economies have managed to pull millions of people out of poverty—and the long-term future of every country lies with continued success in this regard. Competition too is to be welcomed. Like any sporting match, let the best teams win. But also like any sporting match, the game needs to be played with the same rulebook. If the same rules do not apply to all, then fairness is put into question. If fairness is questioned, then sustainability of open trade and investment in the global economy is also put at risk.

Openness promotes opportunities for business. But the governance of trade, international investment and competition does not use a common rule book. Without this, the size and cost of the other policies needed to protect the losers will continue to be burdensome and possibly beyond reach.

This year’s OECD Business and Finance Outlook discusses many aspects of the lopsided nature of  the  world economy, among them: the growing role of state-owned enterprises (SOEs), uneven financial regulations, distorting capital account and exchange rate management, cross-border cartels that translate into benefits for companies and shareholders rather than into lower consumer prices, collusive behaviour  in investment bank underwriting practices, corner-cutting responsible business conduct, and the bribery  and corruption that distort international investment and misallocate resources.

We need improved rules of the game and enhanced international co-operation. OECD standards can play a leading role in shaping this conversation, and promoting a level playing field that ensures the benefits of globalisation are shared by all. This requires a commitment by economies participating in globalised markets to a common set of transparent principles that are consistent with mutually-beneficial competition, trade and international investment across a range of areas.

References

OECD Business and Finance Outlook 2017 is available at: http://oe.cd/BusinessAndFinanceOutlook2017

OECD Business and Finance Scoreboard 2017 is available at: www.oecd.org/daf/OECD-Business-and-Finance-Scoreboard.htm

A complex global financial system

NAECAdrian Blundell-Wignall, Special Advisor to the OECD Secretary-General on Financial and Enterprise Affairs

Global finance is the perfect example of a complex system, consisting as it does of a highly interconnected system of sub-systems featuring tipping points, emergence, asymmetries, unintended consequences, a “parts-within-parts” structure (to quote Herbert Simon), and all the other defining characteristics of complexity. It is shaped by numerous internal and external trends and shocks that it also influences and generates in turn. And as the system (in most parts) also reacts to predictions about it, it can be called a “level two” chaotic system (as described, e.g. by Yuval Harari)

Numerous developments combined to contribute to the 2008 crisis and several of them led to structures and institutions that might pose problems again. Two important trends that would play a huge role in the crisis were the opening up of OECD economies to international trade and investment after 1945, and rapid advances in digital technology and networks. These trends brought a greater complexity of financial products and structures needed to navigate this new world, going well beyond the needs to meet the increased demand for cross-border banking to include new products that would facilitate hedging of exchange rate and credit default risks; financial engineering to match maturities required by savers and investors, and to take advantage of different tax and regulatory regimes; mergers and acquisitions not only of businesses, but of stock exchanges and related markets with global capabilities; and new platforms and technological developments to handle the trading of volatile new products.

The freeing up of financial markets followed the opening of goods markets, and in some respects was the necessary counterpart of it. However, the process went very far, and by the end of the 1990s policies encouraged the “financial supermarket” model, and by 2004 bank capital rules became materially more favourable to bank leverage as did rule changes for investment banks. The banking system became the epicentre of the global financial crisis, because of the under-pricing of risk, essentially due to poor micro-prudential regulation, excessive leverage, and too-big-to-fail business models. The rise of the institutional investor, the expansion of leverage and derivatives, the general deepening of financial markets and technological advances led to innovations not only in products but also in how securities are traded, for example high-frequency trading. The increasing separation of owners from the governance of companies also added a new layer of complexity compounding some of these issues (passive funds, ETFs, lending agents custody, re-hypothecation, advisors and consultants are all in the mix).

The trends towards openness in OECD economies were not mirrored in emerging market economies (EMEs) generally, and in Asia in particular. Capital controls remained strong in some EMEs despite a strengthening and better regulated domestic financial system. Furthermore, capital control measures have often supported a managed exchange rate regime in relation to the US dollar. When countries intervene to fix their currencies versus the dollar, they acquire US dollars and typically recycle these into holdings of US Treasuries, very liquid and low-risk securities . There are two important effects of the increasingly large size of “dollar bloc” EME’s: first, they compress Treasury yields as the stock of their holdings grows, second, their foreign exchange intervention means that the US economy faces a misalignment of its exchange rates vis-à-vis these trading partners.

Low interest rates, together with the more compressed yields on Treasury securities, have encouraged investors to search for higher-risk and higher-yield products. In “risk-on” periods this contributes to increased inflows into EME high-yield credit which, in turn, contributes to more foreign exchange intervention and increased capital control measures. The potential danger is that in “risk-offperiods, the attempt to sell these illiquid assets will result in huge pressures on EME funding and a great deal of volatility in financial markets.

The euro affects financial stability too, often in unexpected ways.. European countries trade not only with each other but with the rest of the world. However, the north of Europe is, through global value chains, more vertically integrated into strongly growing Asia due to the demands for high-quality technology, infrastructure, and other investment goods, while the south of Europe is competing with EMEs to a greater degree in lower-level manufacturing trade. Asymmetric real shocks to different euro area regions, such as divergent fiscal policy or changes in EME competitiveness, mean that a one-size-fits-all approach to monetary policy creates economic divergence. Resulting bad loans feed back into financial fragility issues, and interconnectedness adds to the complexity of the problem.

Population ageing adds to these concerns, notably due to the interactions among longer life spans, low yields on the government bonds that underpin pension funds, and lack of saving by the less wealthy who were hardest hit by the crisis and may also suffer from future changes in employment and career structures. To meet yield targets, institutions have taken on more risk in products that are often less transparent and where providers are trying to create “artificial liquidity” that does not exist in the underlying securities and assets.

However big and complex the financial system, though, it is not an end in itself. Its role should be to help fund the economic growth and jobs that will contribute to well-being. But despite all the interconnectedness, paradoxically, as the OECD Business and Finance Outlook 2016 argues, fragmentation is blocking business investment and productivity growth.

In financial markets, information technology and regulatory reforms have paved the way for fragmentation with respect to an increased number of stock trading venues and created so-called “dark trading” pools. Differences in regulatory requirements and disclosure among trading venues raise concerns about stock market transparency and equal treatment of investors. Also, corporations may be affected negatively if speed and complexity is rewarded over long-term investing.

Different legal regimes across countries and in the growing network of international investment treaties also fragment the business environment. National laws in different countries sanction foreign bribery with uneven and often insufficient severity, and many investment treaties have created rules that can fragment companies with respect to their investors and disrupt established rules on corporate governance and corporate finance.

Complexity is in the nature of the financial system, but if we want this system to play its role in funding inclusive, sustainable growth, we need to put these fragmented pieces back together in a more harmonious way.

Useful links

New Approaches to Economic Challenges (NAEC): The financial stream

OECD Business and Finance Outlook

The OECD organised a Workshop on Complexity and Policy, 29-30 September, OECD HQ, Paris, along with the European Commission and INET. Watch the webcast: 29/09 morning; 29/09 afternoon; 30/09 morning

Finance, Growth and Inequality

NAECBoris Cournède and Oliver Denk, OECD Economics Department

Finance is the lifeblood of modern economies, but too much of the wrong type of finance can hamper economic prosperity and social cohesion. We have taken a holistic approach to study the consequences of finance for the inclusiveness of growth, in the spirit of the OECD initiative New Approaches to Economic Challenges.

The UN’s Sustainable Development Goals are looking at finance in a similar way. They specify the target of better financial regulation under Goal 10, “Reduced Inequalities” and thereby directly recognise the importance of finance for inequality. Our research thus provides an empirical foundation for the SDGs’ target to improve the regulation of financial markets and institutions to attain greater economic prosperity and income equality.

Credit intermediation and stock markets have seen a spectacular expansion over the past half-century. Since the 1960s, credit by financial institutions to households and businesses has grown three times as fast as economic activity. Stock markets too have expanded enormously. These secular changes to the financial landscape have taken place amidst a global economy in which growth has declined and inequalities have widened. They have therefore raised deep questions about the role of finance: What are the effects of changes in the size and structure of finance on economic growth? How do financial developments influence income inequality? Which policies can improve the contribution of finance to people’s well-being?

The development of credit markets boosts economic growth when it starts from a low base, and many developing countries have a lot to gain from further financial expansion. Nevertheless, looking at the data over the last 50 years, our empirical analysis shows that credit expansion has reduced economic prosperity on average across OECD countries. An increase in credit by financial institutions by 10% of GDP has been associated with a 0.3 percentage point reduction in long-term growth (figure 1). At the levels now reached in most OECD countries, further credit accumulation is therefore likely to lower long-term growth. On the other hand, further expansions in equity finance are found to promote economic growth (figure 1).

We identify three main channels linking the long-term expansion of credit with lower growth:

Excessive financial deregulation. OECD countries relaxed financial regulation in the 40 years preceding the global financial crisis, and this initially benefited economic activity. Relaxation of regulation however went too far and resulted in too much credit.

The structure of credit. Our research decomposes credit by lending and borrowing sectors. These breakdowns show that, on the lender side, bank loans have been linked with lower growth than bonds (figure 1). On the borrower side, credit has dragged down growth more when it went to households rather than businesses (figure 1).

Too-big-to-fail guarantees. Our findings of excessive financial deregulation and over-reliance on bank credit suggest that too-big-to-fail guarantees to banks have been one channel encouraging too much credit. This is further supported by evidence that the link between credit and growth is not as negative in OECD countries where creditors incurred losses due to bank failures as in those where they incurred no such losses.

Finance may also exacerbate inequalities, a concern that comes out very strongly in the formulation of the SDGs. Our work finds that this has indeed been the case. Expansions in bank credit and stock markets are both linked with a more unequal distribution of income. We suggest three underlying mechanisms:

The high concentration of workers in finance at the top of the earnings distribution. There are few financial sector employees in low-income brackets and many higher up in the income distribution (figure 2). The strong presence of financial sector workers among top earners is justified as long as very high productivity underpins their earnings. However, our detailed econometric investigations show that financial firms pay wages well above what employees with similar profiles earn in other sectors. The premium is especially large for top earners.

Unequal bank lending. Banks generally concentrate their lending on higher-income borrowers. Credit is twice as unequally distributed as household income in the euro area (figure 3). This may reduce credit risk, but it also means that well-off people have greater opportunities than the poor to borrow money and fund profitable projects. In this way, lenders are likely to amplify inequalities in income, consumption and opportunities.

Unequal distribution of stock market wealth. Stock market wealth is concentrated among high-income households who thus get most of the income and capital gains generated through capital markets.

A better architecture for the financial system

The evidence base from our research therefore suggests that the SDGs’ target of reforming finance is likely to contribute to greater economic prosperity and income equality. Reforms should involve avoiding credit overexpansion and improving the structure of finance:

Avoiding credit overexpansion. Macro-prudential instruments can provide tools to keep credit growth in check. Caps on debt-service-to-income ratios have been identified as effective in this regard. Strong capital requirements on banks and other lenders help limit the extent to which financial institutions can fund lending through liabilities that benefit from public support. Further reforms are necessary to reduce explicit and implicit subsidies to too-big-to-fail financial institutions and level the playing field for competition between large and small banks. This could be achieved through break-ups, structural separation, capital surcharges or credible resolution plans. In the short term, however, measures to avoid credit overexpansion may temporarily hurt economic activity.

Improving the structure of finance. Tax systems in most OECD countries currently encourage corporate funding through loans rather than equity. Tax reforms can improve the structure of finance, by reducing this so-called debt bias, which leads to too much debt, and not enough equity. They would help make finance more favourable to long-term economic growth. Measures to encourage broad-based participation in stock holdings, for instance a wider application of nudging in pension plans, can allow for a better sharing of the benefits from stock market expansion

Useful links

Cournède, B. and O. Denk (2015), “Finance and Economic Growth in OECD and G20 Countries”, OECD Economics Department Working Papers, No. 1223, OECD Publishing, Paris.

Cournède, B., O. Denk and P. Hoeller (2015), “Finance and Inclusive Growth”, OECD Economic Policy Papers, No. 14, OECD Publishing, Paris.

Denk, O. (2015), “Financial Sector Pay and Labour Income Inequality: Evidence from Europe”, OECD Economics Department Working Papers, No. 1225, OECD Publishing, Paris.

Denk, O. and A. Cazenave-Lacroutz (2015), “Household Finance and Income Inequality in the Euro Area”, OECD Economics Department Working Papers, No. 1226, OECD Publishing, Paris.

Denk, O. and B. Cournède (2015), “Finance and Income Inequality in OECD Countries”, OECD Economics Department Working Papers, No. 1224, OECD Publishing, Paris.

Denk, O., S. Schich and B. Cournède (2015), “Why Implicit Bank Debt Guarantees Matter: Some Empirical Evidence”, OECD Journal: Financial Market Trends, Vol. 2014/2, OECD Publishing.

Putting people at the centre of the investment decision: Implications for Private Pensions

Pensions Outlook 2014Gökhan Kula (MYRA Capital) and Markus Schuller (Panthera Solutions)

Ladies and gentlemen, let us be clear: as a society we are increasingly attracted to simplistic solutions, be it in the form of religious denominations or through the populist promises of salvation of parties on the right and left margins. Now, we could also utilise this escape route in the financial industry we work in, on the grounds that simplification has been accepted in other areas of society. But not so fast. Our position and status as well-educated, well-paid and (often) with high self-esteem brings responsibilities with it. We must not surrender to the call of simplistic answers. How then does our industry transcend the simplistic?

On what is feasible

The passionate debate on efficient markets and rational investors is no longer needed. It has been decided. Markets are not efficient, nor are investors rational (see On Market Efficiency). On the other hand, markets are not completely inefficient, but adaptive. People are not completely irrational, but oscillate between emotion and reason (see Unethical Asset Allocation Methods).

What remains the biggest obstacle in regards to change management is changing the behavioural patterns of employees along the investment process.

Does the employee have to be at the centre of the process in order to get closer to the knowledge boundary in asset allocation? Are high frequency trading and RoboAdvisors not evidence enough that humans may not have to play a role in the investment process? Slow down. All quantitative methods and algorithms are based on assumptions of market patterns and how these can be made utilisable as best as possible. Who decides on the assumptions? That’s right, the human developers. In order to lead investment methods closer to the knowledge boundary of asset allocation, this only leaves the focus on the investment team and the investment process it experiences.

What is feasible now? In one sentence: “More conscious and therefore rational investment decisions by means of proactive management of cognitive dissonances and an analysis focus on causality instead of correlation in regards to understanding market correlations create a higher probability of anti-cycles in the investment process.” (Schuller).

If you were searching for the Holy Grail, you have now found it.

Innovation & Asset Allocation

The asset management industry is currently being attacked on two fronts. Regulators increasingly see a systemic risk in asset managers and are trying to implement regulatory measures in order ensure a better handling; and Fintechs are questioning inherent business models and are increasing the margin pressure.

Other industries are already demonstrating the two solutions for this increasing limitation of room for manoeuvre. The temporary solution is economies of scale. This is already the case in our industry. There are regulatory and organisational constraints in regards to the oligopolisation of industries. It is only a temporary solution.

The sustainable solution is specialisation. Competitive advantages by means of specialisation can be won through innovation. This is the only sustainable solution.

In our industry, innovations are rare. Innovation means a shifting of the knowledge boundary on asset allocation, a measurable improvement of the service provisions of corporate finance compared to the real economy. The innovative ability and motivation of the investment teams (investment committee, foundation chairpersons, family office managers etc.) therefore comes into focus. The sustainable competitive ability of an investment process stands and falls with the investment team. Let us refer to them as high performance investment teams (HPIT) to uqse Panthera’s terminology.

Reducing behaviour gaps

Creating a concept is one thing, establishing and managing HPIT is another. There are a number of well-tested starting points, including skin in the game–based incentive systems, transparent governance structures, and quantifiable, transparent performance measurements. But here we’d like to concentrate on reducing the behaviour gap.

The “behaviour gap” has been sufficiently researched and quantified from an academic point of view. A result of the pro-cyclic behaviour of market participants, explained by emotional and wrong decisions. It is self-explanatory that this structural underperformance leads to significantly reduced returns for investors over time compared to buy-and-hold.

Bogle

(Source: Vanguard, Bogle Financial Markets Research, Dalbar)

Although Bogle is mainly highlighting the cost penalty, his research shows the even larger potential for improvement when it comes to minimizing the timing and selection penalty. For reductions of selection penalties, we refer to our initial point, namely the necessity of high performance investment teams.

Implications for private pensions (Third pillar of pensions)

Within ongoing demographic change, a significant shift in pension policies can be observed. Private pensions (the “third pillar”) become increasingly important to close the pension gap, opened by the pillars 1 and 2 (state and employer plans). This puts European trustees in the difficult position of becoming long-term investors for their own private pension plan, with all the difficulties like selecting the right asset allocation and investment vehicles – and the right insurance company. Our trustee should keep three concrete facts in mind:

  1. Costs matter. In a secular low yield environment, each basis point in fees is spent unnecessarily. A focus on passive replication is recommended. If active management fees are justified, the investment products used within the private pension plan should be institutional share classes without distribution costs.
  2. By incorporating strategies based on the body of knowledge led by behavioural asset management, a higher emphasis of rule-based investment processes and dynamic asset allocation strategies could be a way to structurally increase equity allocations in private pension plans. Structurally higher equity allocation will transform mid- to long-term to higher expected returns for private pension trustees, which can alleviate the expected drag of the other main pension pillars due to demographic change.
  3. Insurance companies offer to pre-select and perform due diligence on investment products. Trustees then select from this shortlist, trying to assemble a feasible asset allocation for their pension plan. How can our thoughts on HPIT be of relevance for insurance companies? During an insurance company’s due diligence process of selecting investment products for private pension plans, it should only consider those with a stringent rule-based investment process committed to high performance investment teams. Like that, the whole investment industry would be forced to focus more on the most important risk and performance driver, namely the man at the centre of the investment decision.

Useful links

OECD work on insurance and pensions

A big year for development

Click to see the 17 goals and 169 targets
Click to see the 17 goals and 169 targets

This will be “the mother of all years for summits on international development,” says Kevin Watkins, Executive Director of the UK’s Overseas Development Institute (ODI). He’s not wrong.

Over the next 11 months, international delegates will gather first in Addis Ababa in July to discuss how poorer countries can fund their development. Then, in September, attention will shift to New York, where the United Nations will sign off on the successors to the Millennium Development Goals (MDGs). Finally, in December, Paris will take centre stage when it hosts the latest edition of the global climate change conference, COP21.

The three events may be separate, but the topics under discussion are not. For example, the development financing conference in July will need to come up with ways to pay for the priorities identified in the new development goals. In turn, those goals will (probably) cite the need to help countries better prepare for climate change.

All three events will generate plenty of news and commentary, including, no doubt, here on the blog. But if we had to pick the one that’s likeliest to grab the lion’s share of interest, it might well be the new Sustainable Development Goals (SDGs).

In part that’s simply because of their rarity value. The first, and so far only, global development goals – the MDGs – were set down just over 15 years ago. When the SDGs are agreed in September, they will set the development agenda for the next 15 years. But the attention paid to the SDGs is also likely to reflect the fact that, like their predecessors, they’ll be a powerful campaigning tool for developing countries and the wider “development community”.

Indeed, some might argue that that’s been the most important role of the MDGs. The goals set at the turn of the century won’t be met in full by the time they reach their deadline at the end of this year, although there’s been important progress on a number of them. But, as The Economist noted some time ago, the mere fact they exist has forced world leaders to discuss “matters they might prefer to ignore”.

The MDGs have also become the way in which much of the development debate is framed. Describing them as “one of the best ideas for development either of us has ever seen” Bill and Melinda Gates argue that the MDGs “focused the world on key measures of how many people get the basics of a productive life: good health and a chance to get an education and make the most of economic opportunities.”

So what about the upcoming Sustainable Development Goals? Will they match or surpass their predecessors? That’s a question that many are currently debating, even though the SDGs are still only a proposal and will not be finalised until the UN General Assembly session in September.

Much of the discussion revolves around the scope of the SDGs. Are they, in other words, trying to do too much? The MDGs comprised just eight broad goals, each accompanied by at least one specific target (making 21 in total). So, for example, the overall goal of reducing diseases like AIDS and malaria came with the target of providing access to HIV/AIDS treatment for everyone who needed it. By contrast, the current proposal for the SDGs is to have double the number of goals, 17, and a whopping 169 targets. They are also designed to be truly global, setting goals for both developed and developing countries.

The breadth of the SDGs reflects in part the process that went into their making. As we’ve noted before, critics of the MDGs accused them of reflecting the priorities of donor over developing countries. Determined to avoid similar criticism of the SDGs, the UN has consulted widely. The SDGs’ broad scope also reflects growing recognition over the past 15 years that problems like environmental degradation and inequitable growth can undermine development, and that many of these can only be addressed globally.

But for some, such as Alan Beattie, the risk of such a broad agenda is that is that if “everything is a priority … nothing is a priority”. Similarly, Bjorn Lomborg argues that “having 169 targets is like having no targets at all.” Others are more upbeat: Nancy Birdsall believes 17 goals are “not too many” and reflect the reality that development needs “more about what both rich and poor countries can do together to address global challenges”.

What all can agree on is that the SDGs are ambitious. If they’re to succeed, careful work will be needed not just on their design and implementation but on how development is financed and on how progress is monitored. All that will make for a busy year indeed.

Useful links

OECD work on development

Development Co-operation Report 2014: Mobilising Resources for Sustainable Development (OECD, 2014)

Informing a Data Revolution (PARIS21)

OECD Insights: From Aid to Development (OECD, 2012)