Keeping something in reserve
An Ageing Fund has been put in place to provide assistance with financing public expenditure. But it is far from a silver bullet, finds George Coats
Like other countries facing a demographic problem, Belgium has created a reserve fund to assist with future social security financing. But from its beginning in 2001 it was clear that the Ageing, or Silver, Fund was different from most other such initiatives. It has a very wide mandate - to assist with financing all the public expenditure associated with an ageing population, including healthcare as well as pensions - and a very narrow asset allocation strategy in that it is restricted not only to investing in government bonds, but to specially issued Belgian government bonds.
"I always say the most brilliant job you can have in Belgium is to be the head of the Silver Fund," says Karel Stroobants, a veteran of the Belgian pensions scene and now an independent director. "You can put the impressive assets under management on your card and for the rest you stay home and play golf."
The asset management is undertaken by the Belgian treasury and is governed by a council. "It is easy," concedes Chris De Witte, inspector general in the finance inspectorate who oversees the fund. "The money comes in and there is a special emission of Silver Fund Belgian government bonds, the obligations linéaires ordinaries [lineaire obligaties], or OLOs."
De Witte defends the strategy. "In 2001 the markets were falling and we didn't want to take a risk," he says. "There was a discussion, with some parties saying it would not be a problem to have assets with a certain risk over the long term, but it was seen as politically difficult because the moment the market goes down the value of the fund declines which in turn would generate problems for the responsible minister. And all were aware that there was an election due in 2003."
Philip Neyt, a vice-president at Belgian telecoms company Belgacom and former head of its pension fund, says: "I can understand that they put it in government bonds because with the ageing of the population the duration gets shorter and shorter. Had the government started the process in the 1980s or early 1990s they could have invested more in equities. It's not the risk premium or the return that will solve the issue. For that we should have started earlier."
So how did the fund get the impressive assets under management referred to by Stroobants, which at the end of 2007 stood at €13bn? In fact the fund's financing is as specific as its investment strategy. The law establishing the fund foresaw it being financed through budget and social security surpluses, and non-recurring, non-fiscal revenues. But, as a report produced last year by economics consultancy Oxera for the European Commission* noted: "Given the Belgian budget position the contributions from budget surpluses have been negligible."
Although situated in northern Europe, Belgium had historically followed a tradition of state and government financial incontinence that aligned it more with spendthrift southern Europe than with its more prudent neighbours. The Silver Fund was a reflection of the government's determination to meet the Maastricht criteria of reducing budget deficits to below 3% of GDP and state deficit to below 60% of GDP.
"Since 1993 we have come from a budget deficit of 7% of GDP to close to a balanced budget last year and we came from a state debt ratio of 143% of GDP to 83% in 15 years," says Freddy Willockx, a former finance minister and one of the fathers of Belgian pension reform. "I think that is a really important performance."
"Last year showed a 0.3% of GDP deficit but we have had surpluses of 0.2% or 0.3% except for 2001 with the proceeds of the sale of UMTS licenses it was 0.6%," notes De Witte.
Consequently, the fund's financing has come primarily from the non-recurring, non-fiscal revenues mentioned in the 2001 law. In 2003 the fund acquired the proceeds of the liquidation of the Belgacom pension fund. The transaction added €3.6bn to the fund in 2003 and €1.4bn in 2004. Other transactions have followed, including the transfer of the €160m fund of Brussels International Airport Company (BIAC) and of the fund of air traffic control organisation Belgacontrol.
"They were smaller," says De Witte. "The law was changed at the end of 2005 to require that the building up of a surplus should have a structural character and that the one-off type of operation be limited to €250m until 2010 and €500m from 2011."
The legislation underlined another special characteristic of the Silver Fund, that it wears two hats. As well as preparing to, as De Witte puts it, "pre-finance a lot of the budgetary problems arising from the supplementary costs of ageing", it is also a government tool to massage Belgium's debt to meet the Maastricht criteria.
"The issuance of OLOs reduces the level of debt and the level of interest charges and that helps make budgetary surpluses," says de Witte.
"They want to have it both ways," says Edwin Meysmans, managing director and pension fund secretary of corporate DB pension fund of KBC. "They are saying that the Silver Fund should be building up a reserve but at the same time reducing our debt."
Critics point out that the process is not consistent. "When the government took the Belgacom pension fund it was a good decision in principle," says Stroobants. "The first pillar is PAYG, the second pillar is funded. Belgacom was first pillar so the logic was that the state should take care of it. I wrote at that time that I could understand the move on two conditions: that the Silver Fund would be run on a professional basis like the FRR in France and that the government would do the same for all the other pension funds that were similar, because then you give a clear message to the market on what constitutes the first and second pillars. But instead they have done it on an opportunistic basis. Every year the government sees it needs €500m or €600m to have a balanced budget so it finds a little Belgacom-type pension fund and they take that in."
"Equity investments do not count for debt reduction according the accounting rules for EU governments," says Neyt.
The law does foresee the Silver Fund being able to diversify its investments once Belgium meets the Maastricht criteria. "After we have reached the 60% of GDP level, which according to the latest estimates might be in 2013-14, then maybe there could be a change where we say a small proportion could be invested in other assets," says De Witte.
"But we are quite fixated on the level of our debt, we only reduced it down to 100% of GDP in 2003." But he does not seem convinced that FRR-style market investing would be a positive development. "I have always said that if you are really convinced of that then you can take out loans, because the return would be higher than the rate of interest you would pay."
Whatever the investment strategy, is the Silver Fund up to the job? "No it is not," says Neyt. "Some 10 years ago I calculated that, depending on various assumptions, the government should put 2-3% of GDP in real terms annually into a fund to meet the increasing costs of ageing. They added a Belgacom but they should probably add another each year and because they have also taken on the liabilities it is a zero-sum game, so they should put aside five to six Belgacoms. And now the need is probably 3% plus of GDP, so the Silver Fund is only a first step and far from sufficient. The current reserves are good for only six to nine months."
He adds: "The good thing about the Silver Fund is that the funds are safeguarded for ageing and cannot be used for other, short-term purposes."
But it does play an important role, says Meysmans. "It sent a signal. Previously the political line was to dismiss the ageing issue as just publicity by banks and insurers to sell products and the attitude had been ‘don't worry, the state pension will always be there, there's no problem'. And then they suddenly said ‘well, there may be a problem' and it was decided there should be a Silver Fund virtually from one day to the next."
"I don't think that the average Belgian thinks of the Silver Fund as a full guarantee for their state pension, annuities for their children or whatever," says Lut Sommerijns, secretary-general at the Belgian Association of Pension Institutions (ABIP/BVPI). "But they recognised that the government has taken an initiative and it is doing something to put aside money and lock it in to confront ageing costs at different levels: pensions, social security and health care."
*The effect of cross-border investment restrictions on certain pension schemes in the EU, prepared for the European Commission DC internal market and services, Oxera, April 2007