Australia’s defined contribution pension arrangement (known to Aussies as “super”) is the largest in the world, with assets of A$2.6trn – 144 per cent of GDP. Not bad for a system built from scratch in the early 1990s via mandatory employer contributions.
Those involved in delivering auto-enrolment here in the UK always saw super as an inspiration.
That is why the evidence from a triad of heavyweight official enquiries underway – Australia’s Productivity Commission investigations into banking and superannuation, and a Royal Commission into banking – is so important.
With its 20 years head start, the Aussie DC experience offers data points on what works and what doesn’t in workplace pensions.
In Australia, every pension fund is governed by trust law: a legal requirement to put members’ interests first at all times. But what is being revealed is that trust governance, while necessary, is not sufficient, especially where pension funds are commercial entities.
As senior counsel for the Royal Commission put it recently: “Trustees are surrounded by temptation, to preference the interests of their sponsoring organisations, to act in the interests of other parts of their corporate group, to choose profit over the interests of members, to establish structures that consign to others the responsibility for the fund and thereby relieve the trustee of visibility of anything that might be troubling.
“Their duties oblige them to resist all of these temptations. What happens when we leave these trustees alone in the dark with our money? Can they be trusted to do the right thing?”
Disclosures of misconduct by banks and other commercial providers have caused a sensation. Revelations so far include dead clients being charged for advice, not dead clients being charged for advice they never received, and definitely alive clients receiving conflicted advice from providers out to make a quick buck. Resignations from chief executive level downwards at banks and wealth managers have followed.
Australians had increasingly been voting with their feet even before these official enquiries, moving to not-for-profit funds because of their superior performance.
The top 10 performing pension funds across all time periods are from the not-for-profit sector. More widely, over the last 15 years, not-for-profits have returned an average 8.1 per cent a year. The for-profit average has been 7.2 per cent. For every A$1,000 earned by a for-profit member, a not-for-profit fund member will earn on average, A$1,125. Over a lifetime, this matters a lot.
Shareholder capitalism works well enough in lots of markets, so why is pensions different?
The answer lies in the nature of the pensions consumer and product. The product is long term – one does not know for sure whether a pension has been a good investment for, say, 40 years. After all, 30 good years could be undone by one terrible investment event.
As such, it is not rational for individuals to engage with pension choices as we do with buying the weekly shop, phones, TVs, computers, cars and so on. And we do not.
Absent this consumer pressure, the short-term imperative to deliver profits to shareholders diminishes long-term member returns, whether via conflicted financial advice as per the scandals exposed by the Royal Commission, or in much lower allocations among for profit funds in expensive-to-access but high yielding unlisted assets.
A third related explanation is the greater efficiency of default funds. The bells and whistles “choices” retail funds offer to attract customers increase costs, which in the end are paid for by members. Over time, the impact on returns of these costs is also significant.
The good news is the majority of the UK’s 10 million new auto-enrolled savers are in not-for-profit pension funds. The unfolding story of Australia’s super system at 25 suggests large not-for-profit funds are optimal in a DC system seeking to deliver for the many not the few.
Gregg McClymont is director of policy and external affairs B&CE