Polish reform bid upsets markets
The Polish government’s proposed reform of its second-pillar pensions system, resulting in the transfer of all state and state-guaranteed bonds in pension fund (OFE) portfolios to the Polish Social Insurance Institution (ZUS), and making the mandatory system voluntary, unnerved the markets amid widespread criticism from home and abroad.
On 4 September, following the government’s announcement, the Warsaw Stock Exchange’s WIG20 index experienced one of its worst sell-offs since September 2011. The worst affected were companies with a large OFE shareholding, and banks because of their heavy investments in government bonds.
“Market unfriendly” is how Benoît Anne, head of global emerging markets strategy at Société Générale, described the reforms. “The government’s decision is disappointing for the market and has undermined investor confidence,” he wrote. “It will negatively affect liquidity on the bond market and make it even more dependent on foreign investors, whose share on the debt market will rise in line with the cancellation of domestic-held bonds. It may have an adverse effect on the equity market as well, as a significant share of citizens may be willing to leave the OFE system.”
While the government’s bond transfer proposals aimed to reduce the country’s debt and budget deficit, the credit rating agencies have remained neutral. Fitch Ratings, which in August revised the outlook on Poland’s A rating from ‘positive’ to ‘stable’, said: “The initial favourable impact on the headline public debt ratio may be offset by the reduction in the stock of assets to meet future pension provisions and a consequent increase in long-term state liabilities.”
Moody’s wrote that, under EU accounting rules, the bond transfers would reduce the general government gross debt by approximately 7.9% of GDP to 49.9% in 2013, against its earlier forecast of 57.3%, while the general government financial balance would move from a forecast deficit of 4.4% of GDP to a surplus of 3%.
In its subsequent Credit Outlook, it described the changes as ‘credit negative’ for Poland’s insurers – the bulk of pension fund companies – with a reduction in assets resulting in lower management fees and profitability, while freezing the contribution rate at 2.92% would significantly limit their ability to generate new business. Moody’s expects the insurers to offset this loss by directing their customers to voluntary savings accounts and life insurance.
Wiesław Rozłucki, chairman of the Warsaw Stock Exchange’s supervisory board, told IPE that the impact of the pension changes would be detrimental to the exchange and other Warsaw markets. “Future inflows of investible funds will be reduced, which will affect primary markets such as IPOs, and secondary markets,” he said.
Rozłucki stressed that the OFEs, as buy-and-hold investors, engage in less trading activity than mutual funds, retail and foreign institutional investors, and that their stock market role should not be exaggerated. Nevertheless, their investment activity does influence that of other investors.
“Pension funds will be more volatile, which will discourage investors,” he says. In the longer term, he adds, another financial crisis will temporarily push down the value of the pension funds’ largely equity holdings. “Their clients will demand a return to the state pension fund,” he warns. Rozłucki stresses that, although he is a supporter of the present government, this is not one of its best policies, and could have been better handled, while previous governments did nothing to reduce what he describes as the “excessive” charges levied by the funds, and which subsequently contributed to the OFEs’ demonisation by the government and sections of the press.
With the system now set to be voluntary, the OFEs will have an uphill struggle convincing existing members to remain in the second pillar and future workers to join. For existing members, 85% of their pensions contributions already go to ZUS – whose future payments will be conditioned by the declining ratio of workers to pensioners – so the decision centres on whether the remainder can gain a better return invested in largely equity-weighted OFEs.
The government, by making ZUS the default option, has skewed the choice to push workers out of the OFEs. As Rozłucki notes, most people, when confronted with such complex questions, will avoid having to make a decision. “My personal opinion is that the status quo should be the default position. The government thinks 50% will opt for ZUS. My guess is that 90% will not respond, and their future contributions will be automatically transferred to ZUS.”