Edition: August/October 2018
Editorials

FIRST WORD

Limited choices

‘Prescribed assets’ or leaving Gordhan in the lurch?
What’s worse?
Time is precious as a general election looms.

When the private sector is asked by Pravin Gordhan to jump, its instantaneous response must be to ask how high. In the ugly circumstances of political extortion, most glaringly apparent at Eskom, the potency of the Public Enterprises Minister cannot be compromised.

There are two non-negotiables: that rotten stateowned entities, unable to repay loans, are saved from bankruptcy; and that Gordhan emerges as invulnerable to attack by having pulled it off. The alternatives, of the SOEs ceasing operations and Gordhan being dethroned, threaten an Armageddon for the economy.

Much as it sticks in the craw, the ogre of prescribed assets might need to be explored. Banks and asset managers, to whom Gordan pleads for assistance, sit on mountains of money that isn’t their own.

They cannot, through a sense of patriotism, increase exposures to levels where they feel uncomfortable. Equally uncomfortable must be Finance Minister Nhlanhla Nene, sitting atop a National Treasury called to honour government guarantees were there a claim against them.

When there’s a precipice in sight, the private sector will move heaven and earth to avert it. This time will be difficult, and time is against Gordhan.

A general election, to be fought by a factious ANC, is less than a year away. It is not an ideal time to take on trade unions, purported election partners, least of all when they represent rival federations vying for memberships.

They’ve shown success at Eskom not only in defeating retrenchments, essential for viability, but instead to gain wage increases that the SOE cannot afford. The omens are ill for myriad departments at different government levels, including municipalities.

Stuck between the rock of illiquidity to pay salaries and the hard place of defiance at restructures, prescribed assets offer a means to squeeze through; temporarily, as a last and desperate resort, until

Gordhan can get the rottenness at the SOEs eliminated. Prescribes offer a bandage, not a solution. In principle and practice, they’re fundamentally wrong and come at a cost.

They’re a stealth tax on savers by directing where their money must be invested in government and government-backed instruments at rates that run counter to reward for risk. They disrupt the prudent diversification of investment portfolios, notably of retirement funds.

Nene
Nene . . . extant guarantees

In all likelihood, they’ll further hurt portfolios through a dent in share prices by the deflection of investments from listed equities to prescribed securities. Then there’s the adverse signal to foreign investors on whom the bond market, in particular, relies for sustenance.

That, in summary, is the downside. SA should have learned from previous experience. Prescribeds were enforced – at up to 53% of retirement funds’ assets– to buttress organs of the National Party government during the sanctions era.

In those days, if it’s any comfort, most retirement funds were of the defined-benefit variety. It meant that employers were responsible for members’ benefits. These days, funds are predominantly definedcontribution. It means that, for their benefits, members are at risk on investment performance.

Of the few funds that are still defined-benefit, most outstanding is the massive Government Employees Pension Fund. The effect of prescribeds being (re) introduced will probably be six of one and half a dozen of the other. As the employer, government – that is, the taxpayer – is responsible for pre-determined benefits irrespective of investment performance.

Gordhan
Gordhan . . . room to breathe

At core, banks and asset managers are agents in positions of trust; the former for depositors and the latter for investors. Neither can unilaterally depart from fiduciary responsibility, underpinned by prudential limits, except by prescription that forces higher exposure into investments they’d prefer to reduce or avoid.

To ensure the safety of deposits, bank lending is constrained by legislation and the rigour of credit committees. Their business is to lend on the strength of the borrower’s security. Capital requirements mean that the more they lend to unworthy borrowers, the less they can lend to worthy ones. In the case of collapsing SOEs, the security is in the form of government guarantees now of such magnitude that they cannot be extended.

When it comes to asset managers, the constraints are similar but additional. They act for private clients, insurers and institutions such as retirement funds where they’re obliged to operate under investment mandates that funds compile.

Further, the funds themselves are subject to a plethora of regulation and guidance notes intended to promote “better outcomes for members”. For prudent portfolio diversification, there are caps on the extent of exposure to particular asset classes. Much of the present thrust on fund reform focuses on cost reductions and the ‘Treating Customers Fairly’ initiative.

All this, inclusive of “better outcomes”, will turn to dust in the event that any lender to a SOE calls up a government guarantee that National Treasury cannot honour. It would cause a default, and then a series of cross-defaults at other SOEs, with consequences predictably disastrous for SA’s credit rating and economic activity.

Last year, in terms of conduct codes for responsible investment, asset manager Futuregrowth caused ructions by withdrawing support from badly-governed SOEs. In similar vein, there was a consortium of banks that agreed to a rollover of SA Airways debt on condition that its board was replaced. The then finance minister was obliged to conform. This year, Gordhan has had his work cut out in replacing key boards. Relatively speaking, that’s the easy part.

More torturous will be in deepening the clean-outs to management layers and labour numbers, then onto the scrutiny of supplier contracts. To instil investors’ confidence, that’s going in the right direction. At the same time the proposed national health scheme, mining charter and insecurity of property tenure are seen as going in the wrong direction.

Too much was immediately expected of Cyril Ramaphosa. His election to the presidency was gained not by an upsurge in party support but by a last-minute deal with a provincial premier that swung his hair’s breadth majority. Mixed signals are a function of the trade-offs that have had to ensue, and as they will continue unless or until his position is solidified after the 2019 general election.

Paradoxically, the Democratic Alliance has come to his assistance. Its disarray diminishes the expedience of pandering to the Economic Freedom Fighters for coalition purposes.

Have patience. Let Ramaphosa play his cards. Which means, most immediately, that financial institutions rally to Gordhan’s call. Even to the extent of submitting to ‘prescribed assets’, either directly or discreetly by a nicer-sounding name, for want of an alternative.

Allan Greenblo,
Editorial Director