THE IMPACT OF PENSION FUND INVESTMENTS ON ECONOMIC DEVELOPMENT IN SOUTH AFRICA Student: Ayodeji Olaifa Student Number: 209919108 Supervisors: Mr Bob Wood, Mr Idriss Mouchili and Professor Richard Haines Research submitted in fulfilment of the requirements for the degree MA Research Programme in Development Studies In the Department of Development Studies, Faculty of Business and Economic Sciences of the Nelson Mandela Metropolitan University APRIL 2012 1 DECLARATION I, Ayodeji Haruna Olaifa, 209919108, hereby declare that the dissertation for MA Research Programme in Development Studies is my own work and that it has not previously been submitted for assessment or completion of any postgraduate qualification to another University or for another qualification. Ayodeji Haruna Olaifa Official use: In accordance with Rule G4.6.3 4.6.3 A treatise/dissertation/thesis must be accompanied by a written declaration on the part of the candidate to the effect that it is his/her own work and that it has not previously been submitted for assessment to another University or for another qualification. However, material from publications by the candidate may be embodied in a treatise/dissertation/thesis. 2 ACKNOWLEDGEMENTS I would like to thank the following people and institutions, for their contributions to the successful completion of my dissertation: My parents, for their ongoing prayers, encouragement and care. My darling wife, Yetunde, for her love, support and confidence in me always. My daughter, Oluwafikunayomi, who ensured that I stayed up all night , with little or no choice but to continue working on my dissertation, and in a bid to „escape‟ her loving attention, had to flee to work at dawn everyday to have early starts on my study before work commences. Thank you darling, daddy loves you to bits! My supervisors, Bob and Idriss, for their dedication, positive criticisms and support throughout the course of this research exercise. My Faculty friends and coaches, Berny, Amanda and Prof Haines, thank you for your guidance and for putting up with my impatience. Allan Gray Ltd, for their financial support and role in the completion of this work. And above all, to God Almighty, for life and all its blessings, grace and ability to continue to work towards being that which He wants me to be. 3 TABLE OF CONTENTS Chapter One Introduction to the Research 6 Chapter Two Research Methods and Methodology 21 Chapter Three Literature Review 29 Chapter Four Nature and Development of Pension Funds in South Africa: Structure, Design, Governance, Investments and Taxation 47 Chapter Five Development of Alternative Investments (AI), and Increasing Labour Interest in Social Investments 78 Chapter Six Pension Fund Investments 99 Chapter Seven National Social Security Fund (NSSF) 132 Chapter Eight Conclusion 166 Bibliography 175 Appendix 192 4 ABSTRACT Pension fund investments have been under the spotlight lately, particularly on the back of the recent global financial and economic crisis that resulted in a significant reduction in pension fund assets across economies. Increased poverty levels and high financial indebtedness abound, as workers grapple with retrenchments, reduction in retirement benefits and reduced wages. This is causing a re-assessment of investment strategies of pension funds across the globe, and increasing support for the argument that, the traditional equity/government bond asset allocation is out - fashioned in a world of lower returns and wider choices. Pension funds by virtue of their size, can impact the society directly and/or indirectly through investments in companies that incorporate environmental, social and governance issues in their corporate behaviours, or in dedicated socially responsible investment funds or other forms of alternative investments. This study sought to provide a link between the investment patterns of pension funds and national economic development. An in-depth literature review was undertaken, and investments impacts were assessed by looking at published reports of select funds and corporations. Pension funds are an integral part of a nation‟s economy. This research work established the various dimensions in which pension fund investments can impact the socio economic development of a country, especially in developing countries, where there exists a huge infrastructural and economic gap among different sectors of the economy. Pension funds are workers capital, and therefore should be invested in a manner that will benefit workers, and these benefits cannot be restricted to mere financial benefits, it should be able to generate social, financial and environmental benefits, and in a sustainable way. 5 Chapter One Introduction to the Research 1.1 Introduction and background to the study South Africa‟s Pension system is mainly based on a private pension fund system comprising over 13,000 pension funds, and about 13 million members as at the end of 2008 (FSB 2007). Pension fund sizes generally depend both on the accumulated pension contributions and on the growth generated by the pension fund‟s investments. The total assets of South Africa pension fund industry is estimated to be over R1.2 trillion and a large majority of these funds are being managed by the Public Investment Corporation (PIC) 1on behalf of the Government Employee‟s Pension Fund (GEPF). The industry is presently dominated by the private sector which arguably has a paramount business agenda which leads organised labour to argue that, ideally pension fund contributors should be the most important role players in the industry but currently they have the least influence. A significant portion of the country‟s pension fund assets2 are invested in shares and in insurance policies. The recent economic crisis and consequently the rising unemployment and job loss have increased public interest in the investment of pension fund assets. With inflation of around 9% in 2008 and average performance of -12%, real loss of most pension funds within this period amounts to 21% (Sanlam 2009). As developing economies strive to cope with the aftermath of the recent economic crisis and its attendant liquidity crisis, it has become topical that pension fund capital be designed to meet gaps in markets for small and 1 The PIC manages over R700billion representing assets of about 1.5million state workers (GEPF 2010). 2 According to the 2006 FSB Annual Report, over 60% of South Africa pension fund assets are invested in equities and insurance policies. 6 medium sized firms in the economy, therefore effectively acting as venture capital funds. Institutional investments in the last 50 years have been dominated by investments in the so called, traditional investment vehicles: equities, real estate, government bonds (cash). Recent years have seen a dramatic explosion of interest in alternatives from these investment vehicles, with private equity, investment grade and high yield credits, emerging markets equities and debts, hedge funds, commodities and socially responsible investments increasingly seen as useful and in many cases essential components of a balanced investment portfolio. In developing economies like South Africa, these alternative investments3 have gained a lot of attention as pension funds evolve towards being agents of economic development over and above their fiduciary responsibilities. It is recognised that pension fund investments can have impacts beyond the rate of return. Historically, investments policies and fiduciary responsibilities were narrowly constructed so that the secondary or developmental impacts of investments were not deemed relevant. However, some stakeholders have come to recognise that collateral benefits from socially responsible investments are important elements of a prudent investment of pension funds. Even though a few pension funds (like some other institutional investors) are already involved in some form of domestic development, particularly in infrastructure which can offer regular long term cash flows, large scale social investments are still to be achieved. The GEPF4 led other South African investors in launching an investor led network as part of their commitment to the UN-backed Principles for 3 Alternative investments have been preferably referred to as development funds in South Africa 4 This is the 29th largest sovereign fund in the world with $74billion in assets, according to a research by P&I/Watson Wyatt (2009). 7 Responsible Investing5. The PIC makes significant investments in rural and township development as well as in national infrastructure development. It invested R2.5billion in 26 Retail developments and R19billion in refurbishing key airports in the country (Fred Hendricks 2008). 1.2 Economic Environment The recent 2011 economic crisis in the euro zone and the re-emergence of financial risk in the world has sent further shocks to the world markets. Not too long ago, the global economy in 2007/2008 was plagued with a severe economic recession catalysed by a massive and sporadic financial crisis that had its roots from the Wall Street in the United States of America. Many referred to it as the most severe and most synchronised since post war period, as virtually all the developed economies and many emerging markets and developing economies were thrown into deep economic recession (Charles and Robert Aliber, 2008). Overall global GDP was estimated to have contracted by 6.5% (annualised) in the fourth quarter of 2008 from a 4% growth in 20076. This incessant global financial crisis has impacted greatly on