Mandatory Investment of Pension Savings in an Alternative Investment Fund Has Nothing to Do with OECD

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A new legal provision requiring that one billion euros of our pension savings be directed to an alternative investment fund with a state guarantee has been enacted due to the OECD. This is how the Ministry of Labor, Pension System, Family and Social Policy has been explaining the reasons for the latest legal amendments for days, which impose a rather unusual and unique obligation on Croatian mandatory pension funds (OMF) of categories A and B to invest. Namely, according to these amendments, OMFs would have to invest at least five percent of their capital in an alternative investment fund with a guarantee of return up to the initially invested amount, with such a guarantee to be provided by Croatia, an EU or OECD member.

The first problem with this provision is that such a fund, as envisioned by the Ministry of Labor, does not yet exist. The second is that the OECD has not recommended such a thing to Croatia at all, which has been confirmed to us by that organization.

Unique Creation

– The OECD generally does not recommend the existence of minimum investment requirements for any asset class as this can hinder flexibility and prudent diversification of investments – responded the OECD, thus refuting the Ministry of Labor, which justified the amendments to the law by OECD recommendations to direct capitalized savings more towards securities rather than government bonds.

That this is a unique Croatian creation, and not a usual way of investing pension funds and certainly not an OECD recommendation, is also evident from the OECD’s annual publication on pension regulation in over ninety countries. The Association of Members of Mandatory and Voluntary Pension Funds analyzed the mentioned publication, but could not find anywhere that the regulator mandates a pension fund to invest at least five percent of its assets in an AIF (alternative investment fund). Usually, the maximum amount is limited because it is a risky investment, but there is no minimum that must be invested.

Contrary to OECD Recommendations

– Such legislation, according to the Ministry, is motivated by the OECD’s objection that pension funds have too high a share of debt securities (bonds) compared to equity (stocks), but searching through the recommendations of that organization in the new report on Croatia, we unfortunately could not find a recommendation for a state-guaranteed AIF. This is not recommended even in the policy brief of the World Bank. Furthermore, it is not entirely clear whether such a type of guarantee can be considered an illegal subsidy. Let’s assume that such a state-guaranteed AIF decides to purchase an issuance of corporate bonds from a company. The state guarantees the principal of those bonds, which means that if that company does not pay the bonds, the state will do so with taxpayer money. In this sense, it can be argued that the company whose corporate bonds are purchased by such an AIF will have access to more favorable financing and lower interest rates compared to other market participants. In other words, such a company cannot default on the payment of those bonds because the state always guarantees them through the AIF – explained the president of the Association of Members of Mandatory and Voluntary Pension Funds, Vedrana Pribičević.

Although the law stipulates that pension funds must invest in an AIF for which a guarantee is provided by Croatia or another EU or OECD member, such a fund is currently nowhere in sight. In response to our explicit inquiry to name at least one such fund in the entire European Union, the Ministry of Labor avoided answering.

We also directed the same inquiry to two OMFs. We did not receive a response from PBZ Croatia osiguranje, while Erste Plavi stated that no such fund has approached them so far.

This is quite logical because the legal conditions prescribed for such a fund are indeed specific, and it is clear from the provisions that the primary target is the Croatian AIF. The new legislation, namely, stipulates that this yet non-existent AIF must invest at least thirty percent of its assets in Croatia. In a similar way, the regulations and the clause on mandatory kuna assets previously forced funds to purchase domestic assets, but after the introduction of the euro, that clause ceased to apply.

– That clause is not wise from the standpoint of geographical diversification for small and open economies like Croatia. With the introduction of the euro, currency risk has also been eliminated, so there are now no obstacles for pension funds to invest in the eurozone. By stipulating that the AIF must invest a certain percentage of its assets in Croatia, it contradicts OECD recommendations that call for greater geographical diversification, which is especially important in the context of increased geostrategic risk. Usually, funds guaranteed by the state, which are not AIFs, like the Norwegian pension fund, have a ban on investing in their domicile country for this reason – explained Pribičević, who also considers it problematic that pension funds, if they cannot purchase a stake in an AIF due to lack of supply, can substitute it with government bonds.

Taxpayer Bill

– This would imply that government bonds carry the same risk as state-guaranteed shares in an AIF. The probability that the state will default on a bond payment and that the AIF will lose money is not equal. The risk associated with investing in an AIF thus shifts from the shareholder to the state budget and taxpayers, contrary to the intention and logic of the second pension pillar – stated Pribičević.

What the rules will be for alternative investment funds into which one billion euros of our pension savings could flow, we should find out in the next twelve months, by which time, according to the new Law on OMFs, a regulation must be adopted that will prescribe this.

What the Ministry of Labor says and what the actual goal of this alternative investment fund is, read in the new printed and digital edition of Lider.