Written by Partner Michelle Levy
The Financial System Inquiry's (FSI) interim report devotes a lot of space to superannuation, but doesn't have a great deal to say. To some extent this is a function of the nature of the interim report – it does little more than record the issues that have been raised in the submissions. And what is missing from the hundreds of pages is any vision for a retirement income system. Without it, it is hard to see how the FSI will bring about any significant changes and it is hard to see that any changes will not add to the instability and lack of trust the report identifies as a real problem for superannuation.
The interim report says: 'options to address the issues … need to take account of the Government's broader policy objectives'. That's a sound idea except there are no policy objectives articulated. And this makes things hard. If, as Jeremy Cooper's draft Charter Principles for superannuation (remember the Council of Superannuation Custodians?) suggests 'the long term aim of the superannuation system is to deliver private income to enhance the living standards of retired Australians' then it doesn’t make a lot of sense to spend time thinking about how superannuation can be used to fund infrastructure or finance Australian business.
And in fairness, the interim report is short on ideas about how superannuation might do so. Nevertheless, superannuation is discussed in the 'Growth and Consolidation' part of the report without any consideration of whether investing in infrastructure or corporate bonds would be in the interests of superannuation fund members. It asks whether regulation creates impediments to investing in these and other asset classes without raising the possibility that trustees may have already decided that investing their members' retirement savings in infrastructure, corporate bonds or residential mortgages is not in their best interests. There is, instead, an assumption that because superannuation is a long term investment, it must be suited to investment in long-term infrastructure projects or, because retirees need income streams, trustees will want to invest in long dated corporate bonds. These might both be true, but they should be tested. As should the cost. The FSI makes the point that what matters is net investment returns, not fees and costs. But here they are not convincing – instead they note research indicating that high fees are not accompanied by higher returns to members. If this is true, then the attention in the report given to fees and costs in superannuation is warranted.
In a rare expression of opinion from the FSI, the interim report says: 'There is little evidence of strong fee-based competition in the superannuation sector, and operating costs and fees appear high by international standards.' It then says there is scope to reduce costs and improve after-fee returns.
But, notwithstanding the FSI's view that competition has failed to reduce fees and costs for members, the inquiry appears to be focusing on ways to improve competition rather than identifying other methods of reducing fees and costs. Efforts to reduce fees and costs by improving competition between funds won't work unless members choose their superannuation fund and, in doing so, compare fees and costs. The evidence is that they don't do either. And the Grattan Institute says that, far from reducing fees and costs, competition has in fact contributed to them. They say that funds do compete for members, but they do so by their distribution methods, product features and employer and member services rather than price. In that case, increasing competition between funds is not likely to reduce fees and costs.
In the last part of the interim report in 'Emerging Trends', there is a reference to evidence from behavioural economics that demonstrates that poor outcomes emerge from complex decision making at critical junctures such as retirement. Behavioural economics also says that we make poor decisions when the consequences of the decision are a long way away. They both suggest that methods designed to increase competition between funds so that members can choose the fund that will be best for them based on price (or anything else) will fail. In that case, there might be an argument for better product design and more prescription based on a clearly articulated objectives for the retirement income system. If that leads to greater investment in infrastructure and Australian companies by superannuation funds that will be a good by product, but it would not be the objective.