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The writer is a contributing editor to the FT
When the shortcomings of Britain’s pension system are dissected, attention often turns across the Atlantic to Canada and its giant pension funds, which have become a force in international finance, particularly in direct private asset management.
Britain’s plan to boost investment in its economy and stem withdrawals from domestic stocks meaningfully rests on consolidating pension funds to make them look more Canadian. But would it solve the UK’s problems? Looking at these two countries, reading from Canada to the UK is complicated.
Some of the problems of the two economies actually seem similar. GDP per hour worked in Britain has grown by a paltry 0.6 per cent a year since 2015, about half the rate in the US. Canada’s rate of productivity growth has been almost as dismal.
Expert consensus in both countries blames the problem on a lack of domestic investment. At the end of 2023, more than 70 UK entrepreneurs wrote an open letter to Chancellor Jeremy Hunt complaining that pension funds were starving the UK of capital and calling on him to do more to reverse the decline in domestic equity pension investment. Months later, 92 Canadian businessmen issued a similar letter to Canada’s Minister of Finance.
This problem occurs despite the fact that both countries have huge amounts of funds in their pension systems. Calls for increased domestic investment must be relative to the opportunities available. And here are some differences between countries.
While Britain has opened up its major airports, electricity grid, water and sewage networks to private funds, chances for Canadian pension funds to invest in their own critical infrastructure have been rare. Where investment opportunities have arisen—for example, financing and building the Montreal subway system—pension funds have taken advantage of them. Canadian schemes can hardly be blamed for not trying. And capital flowed into British infrastructure regardless of its nationality.
However, Britain’s ability to deliver new investable projects to meet potential local demand is questionable. Earlier this year, a report by the Purposeful Finance Commission, a forum of regional government officials, found such a lack of expertise in local planning that they recommended investors band together to fund more planning officers to clear the backlog of applications. If the newly consolidated UK pension funds try to allocate new money to invest in UK infrastructure, they may struggle. British policymakers, like their Canadian counterparts, will need to focus on supply as much as demand if they want to boost investment.
In terms of capital for growth companies, there is not so much supply in the UK. Britain does not suffer from an absence of quality early stage companies. The country has become Europe’s largest center for venture capital and growth capital – raising more than the next two largest markets combined – even without domestic pension capital. The problem is more about the lack of capital to support growing companies as they expand. Consolidation of schemes could open the door to higher allocations to risky venture capital investments, which tend to have high long-term returns for investors and the economy.
The situation is less promising for UK-listed shares. Even if UK pension funds were to follow the Canadian path to consolidation, it seems unlikely that this would be a big panacea for UK-listed stocks by meaningfully strengthening strategic allocations to them. The global trend is to invest globally, driven by concerns about the risk of concentration that accompanies domestic bias.
But the idea that UK companies have higher costs of capital because of a shrinking domestic bias is being challenged. Keith Ambachtsheer, director emeritus of the International Center for Pension Management, says domestic companies are not suffering from access to capital because of the global shift. Canadian and British pension funds allocate outside of domestic stocks, but so do, he says, funds from Australia, Europe, the Middle East, Singapore and other countries. Things settled down.
Consolidation of funds should open up cheaper ways of allocation to so-called productive finances. And given the huge tax breaks given to pension savers, it’s only fair that the Treasury should have some say in where pensions are invested – if they so choose. However, the shift away from domestically listed stocks is unlikely to stop, let alone reverse, any time soon.