The big picture: Superannuation has become a key driver for economic growth in Australia

I am honoured to be invited here today, and particularly so to be following on from the recent addresses given by the Federal Treasurer and Shadow Treasurer.

I have titled my address “Superannuation and the National Interest”, because the Australian superannuation system is becoming so significant relative to the Australian economy that, with appropriate leadership and policy development, it can be harnessed to the national interest to simultaneously offset any costs of addressing climate change, create the infrastructure to underwrite Australia’s economic, social and environmental future and meet the needs of an ageing population. The system has come a long way in a relatively short time.

In 1983, when I first began to look at superannuation from a national perspective, the best estimate I could make was that something less than 15 per cent of the workforce was actually benefiting from occupational super. This was a function of both low coverage and poor design.

The unfairness and inequality of benefit was magnified by the fact that, at that time, the superannuation system attracted a massive tax incentive, much more generous than any of the current advantages.

Notwithstanding the incentives, total superannuation assets at that time had not reached the $50 billion mark.

The ACTU-led campaign which commenced in 1984 would, by the end of that decade, take coverage to around 80 per cent of the workforce and, equally important, transform super into a system whereby the benefits are vested in the name of each individual.

The spread of industry super funds also led the way in terms of creating huge economies of scale through multi-employer trust deed arrangements.

The Australian economy currently ranks around number 17 in the world by size of output (GDP); and the Australian Stock Exchange (ASX) sits around 8th place in world rankings, as measured by market capitalisation value. But our managed funds industry is usually ranked at four or five in terms of funds under management. This is almost entirely due to our system of superannuation.

Total superannuation assets (TSA) in Australia have grown by around 11 per cent per annum over the past 10 years and 14 per cent per annum over the past five years.

Having passed the trillion dollar mark, TSA will almost certainly overtake the value of both the ASX and annual GDP this year. I think it is quite conservative to estimate that by the year 2020, TSA will exceed $4 trillion. One of the very few national aggregates that is holding its own against this growth is gross foreign debt, which, at more than $1.3 trillion, simply underscores the importance of superannuation savings to the health of the national balance sheet.

While many people are vaguely aware of this growth in super assets and see it as a major positive for Australia, the potential significance for the national interest has not as yet been grasped.

What these aggregates actually mean is that a 1 per cent per annum lift in net performance of the superannuation industry will add $10 billion, rising to $40 billion each year, to the asset base. In an economy operating at near-full capacity, this is very similar to lifting economic growth 1 per cent per annum, and becomes increasingly important as the asset base grows.

To put this further in perspective, John Howard, George Bush and some sections of the business community routinely refer to the economic cost of dealing with climate change as a reason for going slow on carbon reduction. But when the Business Round-Table on Climate Change briefed the Allen Consulting Group to estimate the economic cost of achieving a 60 per cent reduction on year 2000 emissions by 2050, their analysis showed:

1. the cost of taking early action would be approximately 0.1 per cent per annum of GDP; and

2. the cost of taking delayed action would be approximately 0.3 per cent per annum of GDP.

Of course, the cost of not taking action is possibly disastrous.

What is clearly beyond dispute is the extreme importance of ensuring we maximise performance of the superannuation asset base given its staggering size.

Broadly speaking, aggregate performance can be enhanced in two ways. Firstly, by getting superannuation providers generally to lift performance. Secondly, by ensuring that the marketplace works in a manner that ensures contributions tend to flow toward the better performing funds or sectors. On the second point, unfortunately, our superannuation market, with its total confusion of advisory and sales functions, exhibits massive failure.

This is because large numbers of people seeking financial advice are inevitably caught up, through financial planners, accountants or other intermediaries, in a web of sales commissions, kickbacks and other incentives paid by superannuation providers, often in inverse proportion to the quality of the product in terms of its net benefit to the fund member.

This is particularly a problem for the industry fund sector, which typically does not pay sales commissions, but is also a problem for any fund or segment that might otherwise stand to benefit from a superior track record.

According to data provided by SuperRatings, for the five years to June 30, 2006, the top 10 public offer funds in terms of net returns were all industry funds.

Similarly, if one looks at the ratio of dollars earned for members to fees collected over any period, industry funds as a class have starkly outperformed their retail master trust competitors.

And yet, according to research carried out by Rainmaker Information, of the top 30 financial adviser groups (which account for two-thirds of all financial planners), not one had industry super funds on their approved product list, while every one of them relied mainly on sales commissions for their remuneration.

Writing in The Age on April 14, this year, Alan Kohler suggested the solution to this quagmire of conflicted interests might be to ban sales commissions on super, put more emphasis on individual advisers’ accountability and ban product providers from owning advisory networks.

These measures, if delivered as a package, would be welcome, but experience has demonstrated that it is notoriously difficult to get political focus on such major issues where so many vested interests are so well represented.

Even so, something must be done urgently.

The immediate past chairman of the Australian Securities and Investments Commission (ASIC), Jeffrey Lucy, recently exhorted a conference of financial planners to act in the best interests of their clients. What is fascinating about that is that it was an exhortation not a directive.

Sadly, the Corporations Act provides only that advisers give “appropriate” advice. In practice, this means ASIC accepts that advisers recommend products from a limited ‘approved’ list, normally negotiated between the advisory practice and various product providers.

Can anyone imagine it would be acceptable for a doctor to recommend drug B when a more effective drug A is readily available on the grounds that he or she receives a commission only from the drug B supplier and believes the drug could have some benefit.

Superannuation fund trustees have a well-established fiduciary duty to act in the best interests of fund members. Almost unbelievably, no such legal relationship is yet established for those holding themselves out as financial advisers. This could be easily remedied.

Let me now turn to the issue of harnessing the large investment capability of the superannuation industry to the national interest.

The sheer scale of superannuation assets relative to the ASX and the Australian economy foretells an inevitable shift in investment patterns. Fund managers, such as the one that I chair, are rapidly establishing overseas offices. Investment allocations to unlisted markets, and particularly to offshore investments, are expanding rapidly as a percentage of portfolios. All this offshore investment is not a bad thing for the national interest. After all, earning rents, interest, dividends and capital gains will act as a counterbalance to the outgoings associated with our burgeoning foreign indebtedness.

But what a missed opportunity it will be if we do not harness at least a good proportion of our world leading superannuation base to also create world leading economic, social and environmental infrastructure.

In some cases, government incentives or financial commitments are required because investment benefits cannot or should not be captured by a private investor.

In other cases, all that is required is government leadership and facilitation.

In all cases, projects of national significance require one or more political champions, and that is the really scarce commodity.

Typically, major projects will involve management of three levels of government (and political oppositions), various state and federal departments and several specialist agencies and interest groups. The task cannot be managed without strong leadership.

What I want to establish clearly on the record is that any failure to link our superannuation system to our national infrastructure needs is emphatically not an unwillingness of super funds and their managers to meet the challenge. The large scale and rapidly growing industry funds in particular have a strong appetite for such investment. The growth of these funds ensures they are not liquidity constrained; they can take a long-term view and need to accumulate investments across the full range of risk and return profiles.

Further, engagement of these funds does not require expensive stock market intermediation, nor is it essential to create a welter of transaction fees.

Numerous business groups have highlighted under-investment in economic infrastructure, particularly in relation to the transport and logistics tasks of timely supply to export markets, as well as the need to remove the chronic uncertainty that is preventing new investment in major power generation. Under-investment in telecommunications is also topical.

On the social infrastructure front, Federal Treasurer Peter Costello’s own Intergenerational Report, which is an important planning document, indicates a major task ahead in relation to health, aged care and educational infrastructure.

On the environment, Australia ranks second in the world for greenhouse gas output per capita.

It may be that our Federal Government is edging itself, under extreme political duress, towards some sort of carbon emissions trading regime.

What is impossible to understand, except in the context of pandering to narrow vested interests, is the Federal Government’s abandonment of adherence to any meaningful mandatory renewable energy target.

So investment in the renewable energy industry in Australia is currently entirely dependent on schemes in a couple of states. And because Australia refuses to be part of the Kyoto arrangements, companies like Pacific Hydro, with world-leading skills in the creation of carbon credits, have to do so through offshore subsidiaries.

Instead of playing catch-up, our Governments should be leading.

We have, for example, a massive potential for geothermal power based on huge reserves in the north of South Australia. The biggest hurdle in exploiting these reserves is the cost of transmission lines to major population centres. But the potential exists for providing perhaps up to 25 per cent of the eastern seaboard’s base-load power requirements into the future on a completely renewable zero emissions basis.

Such a nation-building project could be feasible, provided our leadership has sufficiently visionary timelines.

If such an example is thought to be too visionary or theoretical at this time, let us turn to a more practical and immediate example of market failure and leadership failure in the area of water provision.

I will use Victoria as an example, although it is by no means the worst example of water administration.

Something like 70 per cent of total Victorian average water use is in agricultural irrigation, and approximately 30 per cent of this is wasted, mainly due to archaic infrastructure. So while it may be becoming politically correct to shower with a friend (so to speak), it is frankly irrelevant to our current water crisis. I believe that something like twice Melbourne’s total annual water usage could be saved in perpetuity by a comprehensive overhaul of irrigation infrastructure. This could be achieved very economically by focusing on the areas of largest loss (i.e, channel leakage, where it appears something like 80 per cent of leakage comes from 20 per cent of the channels), outfalls, spillage and oversupply.

Thus, for a spend in the order of $1.5 billion, water could be saved at a cost of less than $2,000 per megalitre, which compares quite favourably even with our currently underpriced water values. On this analysis, it might well be that no Government funding at all is required.

It is, however, absolutely certain that a strong political champion will be required if this obviously essential project is to be activated in a timely manner.

In the meantime, it does seem to me that it is a national tragedy that Australia’s greatest river can no longer, unaided, open its mouth to the sea.

I have talked about the relative scale of the superannuation industry and the consequently critical importance of maximising its performance. I have talked about its potential for addressing climate change and for nation-building economic and social infrastructure. Let me now conclude by linking this to retirement income adequacy and the national interest.

We currently have a system based on a mandatory contribution of 9 per cent of wages and salaries. This is augmented by salary-sacrifice and other personal top-up contributions, mainly from higher income people. Most actuarial analysis, however, has pointed to the need for contributions in the range of 12 per cent to 15 per cent.

As I said earlier, the Treasurer’s own Intergenerational Report points to the funding gap, particularly in relation to future aged care and health costs (which are also largely a function of age).

At the same time, most economic commentators see our burgeoning foreign debt as the biggest black cloud, mainly because of its potential to force up long-term interest rates.

For something like 15 years now, a number of people have been advocating that our politicians wean themselves off large-scale handouts at election time and instead direct surpluses into the long-term savings and investment pool through the superannuation accounts of individuals. In this way, electoral largesse would not fuel increased consumption of imports, a runaway trade deficit and the inevitable rise in foreign debt and the attendant threat to interest rates.

In summary, we have an ideal opportunity to build for a great and world-leading future and we should seize it. If our political leaders wish to lead, I am sure they will find willing and creative partners in the industry superannuation movement.

Garry Weaven is the executive chair of IndustryFundServices . Weaven made this presentation to the National Press Club.