Various reports have emerged that the CEO of the Public Investment Corporation, the manager of the Government Employees Pension Fund, has been targeted for removal from his post. That has been denied but, like Pavlov’s Dog, we are conditioned to the same tedious rigmarole of removal/suspension of those in the way of President Jacob Zuma’s looting. It starts, as always, with the emergence of some “report” of malfeasance and the mechanics then play out with the same result at the end. The hurdle is removed and Zuma puts the Gupta-selected crony in his/her place. By DIRK DE VOS.
Cracking open the Government Employees Pension Fund requires a sequence of such processes. Replacing the former finance minister and his deputy with the equally compromised Malusi Gigaba and Sifiso Buthelezi was the first step.
The Government Employees Pension Fund is a defined benefit pension fund, established in 1996 when various public sector funds were consolidated. It is governed by its own legislation, the Government Employees Pension Law, to manage and administer pensions and other benefits for government employees in South Africa. It has more than 1.2-million active members and in excess of 400,000 pensioners and beneficiaries. Its asset base, made up of investments in shares, bonds and other funds, is reportedly worth more than R1.7-trillion. A defined benefit fund means that government pensioners can expect at least a known and fixed monthly pension pegged against inflation irrespective of the performance of the underlying assets.
Fund members and employers (various government departments) are equally represented on the Board of Trustees. At present, two independent specialists serve as trustees, supported by two independent specialist substitute trustees. A key position is the Principal Executive Officer who guides the board in meeting its fiduciary and oversight obligations. This position is now held by Abel Sithole, who replaced John Oliphant in 2013 after Oliphant was dismissed in 2013 for reasons that are not yet clear.
The Principal Executive Officer also represents the fund on policy issues, has the overall responsibility for financial reporting and disclosure, consolidating and amending the fund’s rules and valuating liabilities and assets. Unlike private pension funds, which invest savings only in the interests of their members, the GEPF Law provides that the fund’s board, “acting in consultation” with the Minister of Finance, shall determine the fund’s investment policy.
The actual investing is done by the PIC, operating as an asset manager. Other than the GEPF which makes up nearly 90% of the assets that it manages, it also invests on behalf of 23 other public bodies such as the Unemployment Insurance Fund (UIF) and the Compensation Commissioner Fund.
The PIC’s total assets under management are now just under R2-trillion. The PIC’s board is appointed by the Minister of Finance and traditionally, the Deputy Minister of Finance (now Buthelezi) is the chairman of the board.
The only executive members of the board are the CEO, currently Dan Matjila, and the CFO, Matshepo More. Like any other State-owned Enterprise (SoE), the opportunities for political meddling in the composition of the board are obvious.
At present, the PIC manages four distinct funds:
- A fixed-income fund made up of largely government and SoE debt;
- An equity fund, making it the largest investor on the JSE;
- A property fund;
- And something called the Isibaya fund which provides finance for projects supposedly for long-term economic, social, and environmental outcomes.
The PIC discloses very little about Isibaya and it is here where the PIC’s more controversial investments have been made.
There’s another distinct feature about the GEPF. It’s members’ benefits are guaranteed by the state. So, if for any reason pensioners are not paid their benefits, the government has an obligation to step in and fill the gap.
Prior to 1996, the majority of government workers and pensioners were white civil servants. When the GEPF started out in 1996, workers from the former Bantustan states as well as combatants from the liberation forces became members. The result was that it was significantly under-funded but as contributions grew and stock markets around the world outperformed underlying economies, driven also by perpetually low interest rates, the situation was turned around.
The GEPF is now fully funded.
However, as Stuart Theobald, chairman of Intellidex, has pointed out, this is an actuarial calculation based on several assumptions such as lifespans and the future performance of the underlying assets.
For example, the PIC owns 13% of Naspers whose market cap is now R1.3-trillion, driven entirely by its 34% shareholding in Tencent, a Chinese internet company.
A decade ago, Naspers was worth 6% of its current value. It’s a fabulous share to have, but in Hong Kong, where Tencent itself is listed, it is a share for growth-orientated investors happy to take on the risks. In short, it’s not a share for your granny’s retirement. The ability of the GEPF to remain fully funded requires a continued prudential and largely passive investing strategy.
To take account of these various swing factors, the cautious thing to do is to provide for them by building in reserves. How large these reserves should be is a matter of debate, but for a fund like the GEPF, it could be as much as half of the value of current assets under management. On this measure, the GEPF is still underfunded. To put it in non-financial terms, the GEPF looks okay provided nothing goes wrong.
It is hard to overestimate the importance of the GEPF in the South African economy and indeed its financial system. The funds managed by the PIC represent over 12% of the total market capitalisation of all shares on the JSE. Given that around 40% of JSE-listed shares are held by foreigners, the PIC’s share is as much as 20% of all locally held JSE-listed shares.
On behalf of its clients, the GEPF holds three-quarters of all listed bonds issued by various SoEs, mostly those issued by Eskom. In addition, the GEPF holds direct SoE debt. In general terms, these too have been great performers. As the creditworthiness of the SoEs and especially Eskom has declined, the interest rate or the yield of its debt has gone up, pushing up returns, but big risks remain.
If one looks at the country’s government debt as set out in the 2017 Treasury Review (Table 11), net government debt stood at just over R2-trillion. Added to that are ongoing provisions mostly to international/multilateral funding institutions including the IMF, the African Development Bank and now also the BRICS Bank. These provisions, which must be set aside when they are called upon, amounted to R218-billion. Finally, there are contingent liabilities amounting to another R776-billion.
It is important to understand that contingent liabilities are quite different from debt. They are like suretyships. They represent an underlying obligation to step in should the actual creditor guaranteed by the state be unable to pay the debt. The government has outstanding guarantees to SoEs amounting to around R445-billion, about half of which is to Eskom. In addition, it has further contingent liabilities of R330-billion under a heading “Other contingent liabilities”. These include provisions for legal liabilities against the state, the Road Accident Fund and post-retirement medical assistance for public servants. There is a line for the GEPF but it has been zero since 2006 and is projected to remain that way until 2020.
The credit rating agencies have flagged growing indebtedness as a problem but largely see it as manageable if prudent fiscal policies remain in place – an untested assumption under the shaky leadership of Gigaba.
The big concern lies in the risks that contingent liabilities present, via poorly performing SoEs and, given its scale, especially Eskom.
Now suppose for some reason (choose any) the JSE all-share index fell by 15% (some analysts would call that a correction) and some SoE debt held by the GEPF, whether guaranteed or not, became unpayable. Almost instantly, the government would have to raise contingent liabilities by over R100-billion just for the GEPF. The same circumstances giving rise to this scenario might well mean that what are represented as contingent liabilities become directly payable and have to be financed by raising more debt from willing borrowers at terms they might impose.
Suppose further that domestic economic conditions deteriorate even more, with no sign of recovery, forcing the government to retrench a large number of public servants into an economy that itself is shedding jobs. Under these circumstances, the unfortunate retrenched workers will be looking to draw on their pensions just to get by. What then?
Although the government has a legal obligation to the GEPF to fill in the shortfalls, pensioners will discover they represent just one of a range of competing demands for limited public resources. One scenario played out in several countries like Argentina and Greece after the 2009 financial crisis.
The GEPF could potentially try to liquidate some of its investments to meet current claims, but that could send the whole market tumbling down as the biggest shareholder on the JSE tries to dump its shares. That strategy would also harm currently contributing members. It could also seek default on pension promises by delaying pension payments and couple that with failing to index benefits to inflation. What actually happens depends on whether the government is able to rely on external debt financing from a lender of last resort, essentially the IMF. Outcomes are also politically determined by the power of the pension fund members themselves.
None of the above remotely touches upon the human and political toll that would almost certainly accompany an unravelling. South Africa can’t even deal with the violence, destruction and chaos of regular public servant wage strikes. A proper unravelling would be brutal and almost certainly bloody. Could we even emerge from it as a constitutional state?
The message here is that we should recognise the essential fragility of the government pension fund system; that its fragility holds direct risks not just for its members but for the country as a whole, and that its outperformance over the past few years under the PIC was significantly due to external factors of stock market appreciation driven by low interest rates and SoEs that can either pay their debts as they fall due or refinance them.
The advice to the political class is simple:
Don’t mess with it.
Don’t even think about it.
It’s not a piggy bank to be broken open. To the members of the GEPF, directly or through the unions: make sure your representatives on the board are watching the PIC’s every single move and that there will be no diverting of funds into projects that are not in the interests of the members.
One could take the advice of Financial Times journalist, John Gapper when he wrote:
“Here is a simple guide to South African due diligence: avoid the Guptas, the Zuma family and state-owned enterprises over which they exert any influence.”
Longer term, let’s amend the legislation governing the GEPF, granting it full independence that might include the full freedom to select its own manager and to change it if it chooses. The PIC for its part needs to be far more independent from potential political interference. Perhaps its board needs to be selected like other Chapter 9 institutions who in turn appoint management against criteria focusing on proven skills. It’s not a fail-safe process, as we have seen, but it is better than serving at the pleasure of the Finance Minister, whoever he or she might be. DM
Photo: South African President Jacob Zuma during the G20 leaders retreat as part of the G20 summit in Hamburg, Germany, 07 July 2017. EPA/FRIEDEMANN VOGEL/POOL
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