When the issue of “Haircut” on government securities came up I wrote that it will be bad faith on the side of the Government should it affect Private Pension Funds (see B&FT of October 26, 2022). It was of great relief that the President of the Republic of Ghana in his latest address to the nation, urged us to ignore the false rumours and that pensions funds would not be affected.
Reading an article on Myjoyonline captioned “Government to suspend interest payments for domestic bondholders and impose 30% haircut on foreign bond”, the Deputy Finance Minister John Kumah, in an exclusive interview with JoyNews after the presentation of the 2023 budget, explained that under the debt restructuring arrangement domestic bondholders will receive zero interest for 2023, 5% in 2024, a further 10% in 2025 and should only expect full interest in 2026.
From the confirmation above, this cannot be rumour but a Government policy and should this affect Private Pension Funds, this will not only affect the retirement income of workers but literally bring the business of Corporate Trustees to the brink of collapse with dire consequences on the business of other pension related Service Providers with its related unemployment issues. In fact, the hard won financial independence of the Regulator, National Pensions Regulatory Authority, will be standing on wobbling legs and the whole three tier pensions scheme will gradually be grinding to a halt. The systemic risk to the whole financial sector especially the banking system which is already trying to “bootstrap” itself from clean up cannot be ignored.
I intend to touch on the consequences of including Private Pension Funds from any envisaged debt restructuring as confirmed by the Deputy Finance Minister.
IMPACT ON RETIREMENT INCOME
Let me in simple terms say that the effect of a “haircut” or a “zero coupon” bond swap with existing bondholding on retirement income in times of high interest rates, as far as Private Pension Funds are concerned, is the same since they both limit the growth potential of the funds. The “haircut” reduces the quantum of Assets Under Management (AUM) to take advantage of the “Rule of 72” which is a rule that determines the number of years the assets will double. The “zero coupon” bond will limit the effective yield whereby the coupon payments can take advantage of the time value of money and the power of compounding when they are reinvested at a prevailing higher rate. Unless the maturity value has been adjusted to cater for the loss of the compounding effect, the nominal yield on a zero coupon bond will not compensate for the effective yield on the current holdings of bonds being Held- to-Maturity by the Private Pension Funds.
The valuation of bond holding in the private pension assets portfolio and the distribution of monthly returns to Contributors is based on the fact that the bonds are being Held-to-Maturity (HTM) and easy to ascertain the Yield-to-Maturity (YTM) at any point in time without dabbling in Mark-to-Market (MTM) valuation of their assets which is not appropriate at this time for the valuation of assets being held by the Private Pension Funds.
The issues I raised in my earlier article on the effect of any “haircut” on Private Pension Funds still remain valid and any envisaged “zero coupon” bond to replace existing bond holdings by pension funds or reduction of the coupon payments will still be bad faith by Government. It is just like living in a compound house, keeping your front door ajar, throwing corn to attract chickens in the compound into your room and shutting the door once they are in. The pension funds were attracted with good returns and seemingly compulsory investment in Government of Ghana Securities and now the door is being shut. Bad faith.
May be the Schemes must stop giving statements to their members till they start receiving the full coupon payment in 2026 as expected. This is to avoid an unintended dissatisfaction with the three tier pensions scheme due to the low monthly returns this policy will come with.
IMPACT ON CORPORATE TRUSTEES AND OTHER SERVICE PROVIDERS
The freeze and reduction of coupon payments over the period envisaged from 2023 and beyond will have a negative impact on the liquidity of schemes considering the exposure levels of most of the schemes to government bonds which was made attractive for the funds. Currently, about 80% of all schemes’ exposures are in Government of Ghana securities and any suspension of coupon payments will affect the payment of benefits and allowable expenses needed for managing and supervising the schemes.
The law allows Asset Based fees of a maximum total of 2.5% to be charged as a percentage of the closing Net Asset Value of the Pension Fund investment at the end of the period of charge. This is distributed amongst the Corporate Trustees (1.33%), Fund Manager (0.56%), Custodians (0.26%) and the Regulator (0.33%). Audit fees would also have to be paid for.
This is what the various players use in managing their business, from investing in technology, creating employment and paying salaries, brand promotion and advertising, paying utilities and taxes. How will the Service Providers operate with a suspension of coupon payments or a reduction of it? Should they be taking their fees from the contributions being received? If so, how do they take advantage of the current high interest rates on new instruments for portfolio risk management and balancing?
Private Pension Funds (tiers 2 and 3) operate on Defined Contribution (DC) basis, meaning your pension benefit is unknown but depend on how well your contributions have been invested. SSNIT funds (tier 1), operate on a Defined Benefit (DB) basis, meaning your benefit is known by a defined formula, like a contract with the Government who bears the incidence of risk. How it is invested, technically has little or no impact on your retirement income once Government is paying benefits. By this arrangement, with the tier 1 (DB) scheme, benefit payments can conveniently be made with contributions coming in from those in active employment on a Pay-As-You-Go (PAYG) basis but this will be tricky to do with tiers 2 and 3 (DC) schemes more so when the new Investment Guidelines has introduced compulsory Constituent Funds with the investment instruments pre-determined.
Having assets which does not generate any cash flows or inadequate cash flows will collapse the Corporate Trustees. How will salaries be paid? how will allowances of Board of Trustees be paid? how will utilities be paid? and how will maturing benefits be paid? Assuming the Corporate Trustees have made investment in technology (software and hardware) with a contract of a payment plan, what do they do with this zero coupon and reduction in coupon payments?
With respect to other Service Providers such as the Fund Managers and the Banks acting as the Custodians, pensions business is not the only business they undertake and have the option to get out of the business if no more profitable. They can decide not to renew their annual registration with the National Pensions Regulatory Authority (NPRA). They are not running a social or welfare business.
The debt restructuring as confirmed by the Deputy Finance Minister will impact negatively on the whole three tier pensions system with liquidity challenges of little or no cash flows from assets as happened in the banking sector for which the Bank of Ghana had to take the license of some of the banks. Unlike the banks who can fall on Bank of Ghana, their Regulator, for short term liquidity financing, the Corporate Trustees instead pay fees to the National Pensions Regulatory Authority, their Regulator and would have to fall on their bankers for bridge financing awaiting their fees from the earned coupon payments. How sustainable is this?
CHALLENGES WITH ACCOUNTABILITY OF RETURNS
With zero coupon bonds or reduced coupon payments over a period, tier 2 and 3 funds which are Defined Contribution Schemes with little or no cash flows will become Pay-As-You-Go (PAYG) schemes with current contributions coming in being used to pay benefits and fund expenses. This is like, as we say in banking “eating into depositors’ funds”. The schemes that do not have enough contributions from younger Contributors but have more people retiring will be faced with liquidity challenges. There will be challenges with accounting to new members and new contributions on their return on investment by way of their Yield-to-Maturity, affecting their effective yield, since the funds have not been invested at the time of receipt.
Members of a Private Pensions Scheme, unlike SSNIT, are not members for life. They can port to another Corporate Trustee for better returns or service delivery. Before porting there should be accountability of the benefit accrued and this is the scary part when the total coupon payments have not been received.
Tier 1 scheme (SSNIT) need not account for the returns being earned to the Contributor as long as the Benefit Contract upon retirement will be performed. Private Pension Funds, however, have to be accounting for return of investments to members on regular basis, monthly, and this will be a nightmare. Should this debt restructuring still go ahead, then two things must happen, stop both porting of funds and giving of investment statements to members which will have its own unintended consequences.
The introduction of Constituent Funds in the new Investment Guidelines, now requires that the assets of those in the age brackets of 55 to 60 years are mandatorily be put into a Conservative Portfolio (Fund 3) and these are to be invested in relatively “risk free” assets, mostly Government (GOG) Securities. Are GOG Securities really risk free now? So what happens if those in these age brackets are retiring and the coupon payments of the Fund 3 assets remain unpaid? Who is to pre-finance their benefit payments? This Mandatory Constituent Fund at this time is problematic and has to be put on hold should Government still want to go ahead with the debt restructuring of private pension funds.
IMPACT ON THE REGULATOR
The issues raised with respect to the impact on the business of the Corporate Trustees, equally applies to the National Pensions Regulatory Authority (NPRA). In addition, the NPRA through a lot of analysis and strategic planning based on the envisaged cash flows was able to wean itself from Government subvention at the end of 2016 to be financially autonomous. A decision that was taken to allow the Regulator to have some financial independence to enable it effectively carry out its mandate as enshrined in the National Pensions Act, 2008 (Act 766). As they say “he who pays the piper calls the tune” so there was the need for the Regulator to get some financial independence. This paved the way for the NPRA to live up to its mandate and to attract the needed quality staff from the financial labour market for effective supervision and monitoring of the pensions industry.
Any debt restructuring by way of zero or reduced coupon payments will bring uncertainties in the cash flow planning of NPRA and set back the strategic gains and future commitments made in achieving its mandate.
WAY FORWARD
- Leaving Private Pension Funds out of any Debt Restructuring
Leaving Private Pension Funds out of any form of debt restructuring will bring confidence to pension fund investors and voluntary contributions are likely to increase. In these hard times, when trust in the banking system has waned, it will attract the informal sector that personal pension is a safe place to protect their savings for old age and these are long term savings for the economy.
The Government should then through moral suasion engage and lobby the owners of the funds, workers, through the Ministry of Employment and Labour Relations, as well as being transparent about the challenges and the need for their support. They will then willingly nudge their Corporate Trustees to as much as possible go into longer dated investments. Any compulsory debt restructuring by way of coupon payment suspension will be counterproductive with dire liquidity consequences.
- Private Pension Funds Supervision
There is the need to remove Private Pension Funds from the supervision of the Ministry of Finance which until recently was under the sole supervision of the Ministry of Employment and Labour Relations. This is what is giving the Ministry of Finance that power to be treating the funds as if they were public funds. The Private Pension Funds by name are private, workers sweat money, and not public or solidarity funds as in SSNIT funds for the Ministry of Finance to just decide on what it wants to do with the funds.
The Fund now having dual reporting lines to two Ministries is what is accounting for the posture of the Ministry of Finance, obviously a seemingly stronger Ministry, in dealing with the funds as if they were public funds instead of treating it like any private investment fund through moral suasion and lobbying the owners of the fund.
The coercive approach of take it or leave it by the Ministry of Finance through financial re-engineering is not a helpful pensions governance process and will be counterproductive. Private Pension is full of tension and there is wisdom in keeping it under the Ministry of Employment and Labour Relations so there is engagement with the owners of the funds on how any Government wants to let the funds impact positively on the development of the country. At the moment the Ministry of Employment and Labour Relations seems powerless and so is the Regulator but they will bear the brunt of any backlash from this decision.
The National Pensions Regulatory Authority should be made to revert to reporting solely to the Ministry of Employment and Labour Relations so there is check and balance, separation of powers, between protecting the retirement income of workers and the use of the funds.
CONCLUSION
Yes, we are in dire straits, and we need to find our way out of any looming crisis. The decisions of the past are what we are experiencing today and we need to be careful our decisions now to correct the situation does not create something in the private pensions space that cannot be untangled in the future.
Private Pension funds cannot be treated like any other fund because they have a developmental impact. No matter how we got here, we are here and we are in this together. Let us not encumber the growth of the private pension funds, our only long term internally generated funds, so we have a vehicle for the next generation to use to continue with the development of our dear country.
Leave Private Pension Funds out of any debt restructuring to avoid destroying the gains made in the three tier pensions scheme and the possible systemic risk in the financial sector and its negative effect on the culture of savings in the youthful workforce especially for the informal sector. The decision to subject private pension funds to debt restructuring is a financial re-engineering textbook solution that makes sense on a spreadsheet since payments on the side of Government will be deferred to give some fiscal space but its negative impact on the pensions industry will not be worth it.
Should Government still go ahead, which I think they would, the Regulator must give a directive to stop the giving of Investments Statements to scheme members and put on hold the Porting of Scheme Assets during the period which will come with its own consequences though. As for the Mandatory Constituent Funds, it is more evident now that it is time to finally scrap it.
Let us be mindful of the wisdom of Santaclausions that “Others have laboured and we are sharing in the glory, ours is to do exploits and add to their gain, so those who will come after will take up our story.” We cannot kill the goose that we all depending on to lay the golden eggs for our inter-generational national development.
The author is a Chartered Banker. Holds an LLB and a Post Graduate Diploma in Financial Management (ACCA). He was the former CEO of National Pensions Regulatory Authority (NPRA). (Contact: [email protected])
