CHAPTER 1
BACKGROUND
1.1 The purpose of this inquiry is to examine the implications of the
rapid growth in superannuation fund assets, in particular for the availability
of development capital, the funding of infrastructure projects, the capital
needs of small and medium sized Australian enterprises and housing finance.
The Committee is required to consider the possible role that the investment
of superannuation savings might play in furthering broader social, economic
or industry policy objectives. It will also consider whether there is
an undue focus on short term results, and the need for long term investment
in providing for retirement incomes.
1.2 This examination of Australia's superannuation system will be premised
upon the understanding that the primary purpose of the assets held by
superannuation funds is the provision of retirement income. The funds
represent the retirement savings of fund members and their use must, in
the first instance, enhance their primary purpose.
1.3 With the advent of award superannuation in 1986, the establishment
of the Insurance and Superannuation Commission (the ISC) in 1987, the
introduction of the Superannuation Guarantee in 1992 and the implementation
of the SIS Act during 1994-95, Australia's super system has developed
into a world leader in many respects. Given the growth patterns that are
evident and that are anticipated to continue, it is therefore now timely
to take stock of both the extent and the nature of our superannuation
savings. [1]
1.4 The ISC in its June Bulletin provides a snapshot of the state of
the superannuation system. At the end of the June quarter 1996, the value
of total assets in the superannuation system was $248.7 billion. This
represented an increase in the value of those assets of $25.5 billion
over the year (11.4%). During the year ending June 1996, member accounts
increased by 973 000 to 15.9 million, employers contributed $17.5 billion
(68%) and employees $8.2 billion (32%) into super funds. [2]
1.5 There are various estimates of the growth in the value of assets
in the super system. The Committee was told that the value of those assets
will grow to some $400 billion by the year 2000, [3]
$500 billion by 2005 [4] and to some
$2 000 billion by 2020. [5] Superannuation
fund investment therefore has a significant and growing impact on investment
patterns by Australians. This growth in super savings has the potential
to shape the economic health and stability of the nation, especially if
it grows at a rate around twice as fast as expected economic growth and
demand for capital over the next ten years, as evidence put to the Committee
by Mr Michael Costello, Deputy Managing Director of the Australian Stock
Exchange (ASX), suggests. [6]
1.6 Mr Costello said:
The net annual flow of funds into superannuation (contributions
plus earnings less costs, taxes and benefit payouts) is approximately
$12-15 billion or 3 per cent of GDP and has been projected to grow to
around 4 per cent of GDP over the next ten years, or around $25 billion
per year in today's dollars.
...The stock of superannuation assets is expected to grow strongly
over the next ten years, increasing from $240 billion now to around
$500 billion (in today's dollars) in 2005. [7]
1.7 Australia's universal super system is now firmly established and
widely accepted in concept. Its fundamental features of compulsory superannuation,
supplemented by voluntary arrangements, and operated largely through private
sector organisations, are strongly endorsed by the World Bank as important
aspects of a retirement income system. [8]
These features have been put in place over the last decade, largely with
bi-partisan support. The Committee intends to examine this system and
consider whether its present directions are well suited for the future.
1.8 As the Australian Investment Managers' Association (AIMA) points
out in their submission, another feature of the last ten years has been
the growing role of fund managers in the intermediation of superannuation
savings. AIMA's members managed approximately $327 billion as at 30 June
1996. One reason for outsourcing the investment function is the increasingly
complex nature of the financial markets. Outsourcing in this way means
that trustees are able to rely on professional expertise and advice in
relation to investment opportunities and balancing risk and return. [9]
The market place
1.9 Superannuation savings are invested by the funds in the financial
markets. While stock exchanges are generally regarded as efficient markets,
their high degree of efficiency may also operate as a barrier to achieving
high returns.In recent years, the western world has enjoyed sustained
low inflation and moderate economic growth. These factors have contributed
to a stabilising of the equities markets. However, they also mean that
the huge returns from equities that have been seen in the past will not
readily be realised in the near future. [10]
1.10 Australia's stock exchange is the tenth largest stock exchange in
the world on the basis of domestic market capitalisation, and eleventh
largest on the basis of turnover. However, it represents only 1.6% of
the Morgan Stanley Capital International (MCSI) world index (which includes
22 of the world's mature markets). By way of comparison, the United States
accounts for 41% of the index, Japan 23% and the United Kingdom 9%. In
the Asia-Pacific region, Hong Kong has a 1.9% weighting, Malaysia 1.4%
and Singapore 0.8%. Over the past ten years, the Australian market has
performed well, returning to investors considerably more than the world
average (+274% as opposed to +199% on the Morgan Stanley Accumulation
Indices). [11]
1.11 The ASX does not raise capital itself, but provides the market place
where capital may be raised and securities traded. The price signals reflected
in yields and share values are based on the information available to market
participants. Where the market is functioning efficiently, price signals
help direct capital to where it is most highly valued. As superannuation
fund assets grow, trustees and managers will exert pressure on the market
to absorb the funds and help put them to productive local use. The ASX
states: 'Retention of those funds in Australia will require a larger and
more liquid capital market'; and identifies scale as an important factor
in a market retaining the status of a distinct and well researched destination
for both domestic and international investment. [12]
1.12 In addition to the estimated 2.5 million Australians (or 21% of
Australian adults) who are direct investors on the Australian Stock Exchange,
the ASX advised that 'virtually all working Australians are now indirect
owners of shares through their superannuation fund investments'. [13]
1.13 In the June 1996 quarter, the proportion of superannuation assets
invested in equities was around 28 per cent. [14]
1.14 The importance of superannuation funds to the national economy is
a trend evident also in other countries. In the United States, for example,
pension funds are increasingly being seen as the investment capital that
drives the economy. They own one fifth of all of the financial assets
in the United States, 25% of the market value of all stocks on the New
York Stock Exchange, and over 32% of the daily trading on that stock exchange.
They have been described indeed as 'the owners of corporate America'.
[15]
Diversification
1.15 As super fund trustees and managers seek out high yielding investments
with acceptable risk levels, there will inevitably be a greater diversity
in investment patterns. This diversification, or spreading of risk, can
be expected to embrace both domestic and overseas investments. 'The extent
to which domestic investment opportunities can claim the lion's share
of this diversification, vis a vis overseas avenues, will depend crucially
on the quality and competitiveness of Australia's capital markets', the
ASX wrote. [16] To the extent that our
market place is not fully representative of the Australian economy, then
increasingly Australian fund managers will be forced to look overseas
for the needed diversification.
1.16 As Australians look overseas for investment opportunities, so will
other countries seek to invest in Australia. Mr Michael Costello of the
ASX told the Committee that one third of Australian market capitalisation
is currently foreign owned. He said:
Cross border trading in shares is a fact of life in this business,
which is a global business now. Some $US4-5 trillion in shares are traded
across borders each year out of a possible $US12-14 trillion. [17]
1.17 Trustees may find the increasingly global nature of financial transactions
difficult to accept, although globalisation is an inescapable fact in
a world that is shrinking. [18] In the
increasingly competitive quest to maximise returns for their members,
they will be required to acknowledge this aspect of the market place.
Indeed, super funds are at the forefront of the global trend, primarily
because of the large amounts of money they are investing.
1.18 To the extent that funds flow to productive areas of growth, however,
citizens will benefit. Mr Costello put the ASX's view that the attractiveness
of domestic equity investment would be hampered if the Australian market
continued to have poor representation of growth areas such as telecommunications,
infrastructure, utilities, agriculture and smaller growth companies. This
would mean that superannuation fund managers would be unable to gain exposure
to these areas without looking to overseas markets. [19]
1.19 Areas which are under-represented in Australia currently include
telecommunications, pharmaceuticals and agriculture. One area, however,
that is particularly well represented is resources, currently representing
over 30% of our stock market. Mr Costello pointed out that every major
portfolio in the world needs some representation in its portfolio of resources
and that Australia was among the few countries in the world where it was
possible to gain that exposure. This would account for some of the flow
of funds into the Australian market. Furthermore, this in-flow can be
expected to increase because funds from the US and elsewhere are currently
not as internationally invested as they should be in accordance with the
theory of diversification. [20]
Globalisation and economic sovereignty
1.20 Diversification of portfolio is not the only reason that funds will
flow into Australia. The regulatory environment, and the extent to which
it is viewed as facilitative and flexible, are also important. The Committee
was given the example of an Australian technology company which chose
to list on the Australian Stock Exchange because, among other things,
there was a lower threshold and it was cheaper to list. Other favourable
factors included less regulation, fewer layers of bureaucracy to deal
with and generally a more helpful environment. In addition, the Committee
was told that people here are more prepared to invest substantially in
this type of company and so there was a higher price. [21]
1.21 Currency fluctuations will also be a factor affecting capital flow.
The ISC reports, for example, that during the March quarter it appears
that super fund managers took advantage of the enhanced buying power of
the Australian dollar and invested a further $3.6 billion overseas. This
pushed the percentage of super funds invested overseas from 15% to 15.6%
over the quarter. [22]
1.22 On a purely economic rationalist view of the world, the Committee
was told, focusing on risk return, it might be expected that 40-50% of
Australian investment would go offshore, although the typical fund has
about 20% offshore. To take this even further, and giving no thought to
any question of economic sovereignty or Australian national economic interest,
it was suggested that a fund might consider investing as little as 2%
in Australia as a starting point, given Australia's equity trading weight
in the world.
1.23 There seems to be little research data on the consequences of such
global capital flow, but clearly there are psychological barriers that
run counter to such an extreme position. While an economist might argue
that an equilibrium would be struck by capital flows, it is more likely
that Australians would only own a small portion of, say, Microsoft, whereas
overseas interests might well be able to purchase an Australian enterprise
in its entirety. The question of sovereignty transcends issues of pure
economic rationalism. [23]
Conclusion
1.24 In the interest of maximising returns within an acceptable risk
framework, it is inevitable that fund managers would not be blind to the
advantages offshore investment opportunities may present. Many factors
will be relevant to such investment decisions, including currency volatility
and hedging and the spreading of risk and asset classes within the portfolio.While
very many Australians would have a strong preference for supporting Australian
enterprise and productivity if and when such opportunity presents itself
within an acceptable risk framework, it is trustees and fund managers
who are responsible for implementing these investment choices. If fund
members have full information about the investment policies of their funds
and of the choices that their trustees and fund managers must make from
time to time, as well as the implications of such investment choices for
the provisions of retirement income, then they will be well placed to
make their views known to those responsible for the investment of their
funds.
[Return to Table of Contents]
Footnotes
[1] For a description of the kinds of pension
fund arrangements that exist in various other countries, see Yours,
Mine or Ours?': Is There A Case For Directed Superannuation Investment,
Parliamentary Research Service, Research Paper No 32 1994/1995, pp49-54.
[2] Insurance and Superannuation Commission
Bulletin, June 1996, pp30, 33.
[3] Submission from LISA Inc (SI-14), p1.
[4] Submission from AIMA (SI-21), p2.
[5] Submission from Australian Institute of
Superannuation Trustees (SI-18), p5.
[6] Evidence, pS35.
[7] Submission SI-19, para 1.1. (Note that these
estimates predated 1996-97 Budget measures.)
[8] Averting the Old Age Crisis - Policies
to Protect the Old and Promote Growth, A World Bank Policy Research
Report, Oxford University Press, 1994.
[9] Submission SI-21, p3.
[10] Evidence (Dr Gray), pS18.
[11] ASX submission to the Financial System
Inquiry, Sept 1996, paras 1.1.6, 1.1.7.
[12] ASX submission to the Financial System
Inquiry, Sept 1996, paras 1.2.5, 1.2.6.
[13] Submission SI-19, para 1.1.
[14] ISC Bulletin, June 1996, p31.
[15] Superannuation US - Investment, Practices
and Regulation, speech given to the Evatt Foundation/ACTU conference
'Super 2000 - Investing in the Community', 24-25 November 1994, by Olena
Berg, Assistant Secretary, Pension and Welfare Benefits Administration,
US Department of Labor, Washington DC.
[16] Submission SI-19, para 1.1
[17] Evidence, pS36.
[18] For example, see address given by Ms Vivian
Banta Eversole of the Chase Manhattan Corporation, ASFA National Conference
1996, 'Making Our Savings Work', Brisbane 15-18 October 1996.
[19] Evidence, pS36. Also see Evidence (Mr
Costello), pS39.
[20] Evidence (Mr Costello, Mr Bladier), ppS39-41.
[21] Evidence (Mr Costello, Mr Roche), ppS51-2.
[22] ISC Bulletin, March 1996, p29.
[23] Evidence (Dr Gray, Committee members),
ppS23, S26.
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