African pension funds: The missing link to African development?
Mahamadou Lamine Sagna and Ibrahim Sagna
Today there is much debate on the role of pension funds in economic development. Some believe pensions funds are a beneficial tool for creating a sustainable economic model, but others believe these funds undermine national wealth and social harmony. At the opposite of OECD nations, African countries show very little activity in the pension funds industry. We believe that under ethical conditions pension funds can indeed be used in a viable African economic model for community development and industrial well-being.
Indeed, with 54 distinct nations, one populated by 170m people and 20 populated by less than 5m people, Africa is not only rich in differences but also rich of in contradictions. Over the past decade, six of the ten fastest-growing countries in the world were in Sub-Saharan Africa (SSA). The fastest-growing economy in the world was Ghana in 2011 -- with approximately thirteen-percent increase. In the same year, private equity firms raised $1.5 billion for transactions in Africa. Overall foreign investment in Africa has grown more than six fold in the last decade. In fact, Africa is regarded as the New Eldorado, and is attracting many foreign based private or public investment companies, sovereign wealth funds and even pension funds gradually. Sadly, while foreigners continue to play a major role in growth investments, African pension funds' contributions to this growth are dismal. Indeed, African countries do not have strong pension funds to drive savings. They heavily rely on alternative vehicles to transform savings into investments. The continent still needs to institutionalize, optimize its savings system and develop its own pension funds offerings in order to better control its investment plans.
According to Dovi (2008) between 1998 and 2007, following the development of funded pension systems, the savings level increased SSA from 17.8% to 22.1% of the GDP, while it increased from 21% to 30% of the GDP in North Africa. Yet SSA has less than 5 bank branches per 100,000 adults and less than 15% of people with bank accounts. With such low banking levels, the role of collecting savings (and monetization) can only be expected to grow and become more pivotal.
What are the existing alternative savings vehicles in Africa, and why are these ones chosen? Are there some extra-ordinary considerations which could be the root causes of Africa's paradoxical condition with regards to pension funds? Are there viable paths to achieve optimal savings systems given Africa's context and are they sustainable?
Africa's alternative savings vehicles
In Africa, consumers have traditionally achieved their saving goals through placements in alternative saving vehicles - outside the institutional banking system. These saving vehicles are based, for the most part, on informal structures such as Diaspora savings funds, secular and religious savings funds, moneylenders, deposit collectors, informal insurance schemes, Rotating Savings and Credit Associations (ROSCAs), and collective savings schemes such as Tontines, Susus, Accumulating Savings and Credit Associations (ASCAs). Other more formal saving vehicles have also been available to consumers in the region; the most notable of which are Corporative savings funds or Savings and Credit Co-operatives (SACCOs), and MicroFinance Institutions (MFIs). Many of these saving vehicles have evolved and now include very innovative surety features ranging from income volatility hedges to health, disability and life insurance.
The majority of these services are basically informal and are designed for the poor and "not-so-poor", although they are also used by some richer individuals. The success of these informal financial services is primarily due to the large segment of the informal sector in African economies, and, as pointed out by Adam and Fitchett, because of: (1) the range of services provided small daily deposits, short term small loans, (2) unwavering discipline, as non performance is quickly punished and borrowers have to earn their loans, (3) savings is the basis of transactions and not subsidized by outside cash, (4) reciprocity is often a strong basis for financial transactions, (5) low transaction costs especially for borrower, (6) financial innovation that engender flexibility, speed and suppleness, (7) speed of service provided, and (8) proximity of services provider to the client. Another reason for the sustained success of these services can also be simple religious convictions. Many African nations are observing an increasing demand for Islamic products given the comfort some populations develop with the idea of not being associated with products that are charging interest.
It would appear that turning these various informal alternatives schemes into more formalized and institutionalized schemes could have far reaching economical impact for this continent.
One must understand that the reasoning behind the choices made by Africans when dealing with savings instruments finds its roots in the local culture. In most African languages the act of spending is conveyed by the phrase, "eat money". The money is figuratively considered a food. Culturally, (and literally speaking) food is shared in virtually every African culture, and is seen as a largely communal commodity. We see that in relation to the savings / spending, it is a 'double movement' in the general circulation of the currency: a movement to satisfy personal needs and a movement to the satisfaction of the requirements of social life. These two movements are punctuated by a series of discontinuity / continuity that is the provision of funds to meet the requirements in the event of death (pension) and even a physical continuity of living (to even allow continuity of the community living: a sensible model of sustaining over-lapping generations).
Savings being compared to trade is based on the reliability and confidence in institutions, to beings and objects. This is also true within the Mandingo people of Africa, in which the word Dyula means merchant. This word comes from the word Dioulo which means both "rope" and debt. Trade is held together by a rope. The rope in Mandingo society is a statement of willingness to strengthen and secure a link in the chain of solidarity. The merchantile trading space is a place where every man is a link in the chain of debt. This is a sacred relationship of solidarity.
Under these conditions we see that, one should take into account the cultural and social values in order to better undertand the drivers of the choices Africans make with regards to savings. Africans, like many groups among the low per capita populations, have often the habit of looking for moral imperative of solidarity and well-being. In that aspect, pension funds can be among the key links in the chain of development.
Paradoxical configuration of African structure of Reserves, Savings and Investments
Like the limited intra-regional airline transportation or trade integration in general, very few African pension funds are investing in other African countries directly. When they do, they pass through funds from U.S. and European bases. Savings and reserves in most African nations are earmarked for western allocations and some national - but not for regional or continental exposures. We even find that African governments are doing everything to not develop an endogenous strategy with their pension funds. For example, in Sao Tome and Principe, the Law of the oil revenue management requires that the National Oil Account is housed at the U.S. Federal Reserve, and clause 6.6 of the Act prohibits investment in companies or entities controlled by nationals of Sao Tome and Principe (Albin-Lackey et al. 2004). Similarly, in Botswana, it is possible to take stakes in securities rated-That excludes most of the sub-Saharan Africa except South Africa. Similarly in Chad, revenues from natural resources must be invested abroad according to Asfaha Delon (2007). And in Algeria, according Belaicha, Bouzidi and Labaronne (2009), half of the foreign exchange reserves are invested in U.S. Treasury and the prime banks. Across the board, managers of savings and reserves in Africa seem to transfer national sovereignty to western based countries.
However, despite the lack of local commitment to regional investments, foreign investors are continuing to flock in. This is, after all, the continent where the investment portfolio is growing. China alone is expected to invest more than $100 billion in Africa in 2012, more than double the $46 billion invested by India. Africa attracts a large inflow of direct investment including foreign pension funds. There is great potential for return on investment for investors, including the fact that forecasts in the number of consumers (600 million) and their growing purchasing power.
In recent years, one can observe that with the food crisis, many economic players in emerging countries and Asia are investing in the African lands. Sixty percent of the world's uncultivated arable land is in Africa. Africa has vast agricultural land to feed people in the world. Indeed, with an area of 30,520,884 km2, Africa holds the size of China, the USA, and the European Union.
Investment companies have realized the importance of this potential. They seize the opportunity to position themselves in environments or populations providing booming frameworks and/or turnover.
In addition to the large industrial groups and wholesalers, increasingly western "hedge fund" and even US university endowments, such as Harvard's, have invested particularly in the agriculture sector. According to several sources, four sectors (consumer goods and services, natural resources, agriculture and infrastructure) will generate a turnover of approximately $ 2,600 billion by 2020. If traditionally foreign investment, particularly from pension funds, are was concentrated in the primary sector (mining, oil, agriculture), lately we notice a high rate of growth of investments in new technologies, especially telecommunications. The best example is that of the Sudanese Mo Ibrahim, who, with the support of U.S. and European investors and international financing structures such as the IFC, built Celtel International (Celtel). Mr Ibrahim developed Celtel over 13 African countries and sold it for over $ 3 billion to the Kuwaiti Group named Zain, which subsequently re-sold it to the Indian group Bharti Airtel, for nearly $ 11 billion - the two transactions took place between March 2005 and March 2010.
Not surprisingly, the Council on Foreign Relations of the U.S. was right to emphasize in its report in 2006 that Africa is a fertile ground for investment not only for safety but also in relation to its geographical position and its resources. In a study published in 2011, Ernst and Young conducted a survey in which 75% of respondents considered that Africa is the most attractive continent for business.
If China is now more active in investing through sovereign funds, Western governments have shown their interest in Africa for many years. The U.S. with OPIC, France with Proparco, England with CDC, Germany with DEG, Belgium with BIO, participate directly or lend funds to projects in Africa. They also have financed major operators in Pan-African Private Equity (PE) such as Emerging Capital Partners (ECP), Helios, and Actis - who manage, each, more than 1.5 billion dollars in assets in Africa.
This is changing and more African regional institutions such as African Development Bank (AfDB), the African Finance Corporation (AFC), West African Bank of Development (BOAD) and insurance companies from Africa take a larger role in mainland investments. And like these African multilateral institutions investing in a pan-African fashion, so too the Orascom Group of Egypt, Attijariwaffa Bank or BMCE Bank of Morocco, Dangote Group or UBA Group of Nigeria, MTN, Standard Bank or Tiger Brands of South Africa, Transcentury or Equity Bank of Kenya, Sonatel or Groupe Chaka of Senegal, Groupe Ecobank of Togo are no longer hesitant to invest in multiple countries in Africa.
The near term prospects of witnessing the deployment of local wealth and even savings are encouraging at the continental level. First, size of pension funds assets are growing at a staggering pace: South Africa saw assets grow from USD166 billion in 2007 to USD277 billion in 2011 - while Nigeria from USD3 billion in 2008 to USD14 billion in 2010.
Second positive industry development is at the regulatory level (with regards to allocations). According to Rory Ord, head of RisCura Fundamentals, changes in regulations and investment processes of pension funds are having a significant impact on private equity in Africa. "What that has allowed is that for the first time pension funds are explicitly allowed to invest in private equity and that change in regulations has also opened the landscape for pension funds to invest more in the rest of Africa," said Ord. This change is becoming well pronounced in South Africa and is spreading across the continent. Nigeria, just like South Africa, is headed in the right direction by setting up a legislative framework for local pension funds to invest up to 5% of their assets in the local PE - 5% which equates to about USD 800million for resources held by pension funds in Nigeria. This is an important first step before investing in a pan-African fashion. Ghana is already a good example, - as a result to 2008 National Pensions Act, its Social Security and National Insurance Trust (SSNIT) remains the largest institutional investor on the Ghana Stock Exchange and by this year, it had invested in 4 PE funds.
In the end, it will only encourage the global investment community to see that the risks taken in Africa would eventually be equally shared between foreign institutional investors and their counterparts at the local level.
In essence, we have shown that African markets trends are more favorable to investments and therefore attract all kinds of foreign investors. Governments, sovereign wealth funds and industry groups in Africa have also progressively realized that their best bet is to invest in the African continent. One might wonder 'what took them so long?'...The sad reality is that, unlike the history of many emerging countries where the FDI contributed significantly in their development, Africa has had to face a different set of bottlenecks that plague its development: multiplicity of local languages (thousands) and sovereign nations (fifty four and counting), monetary dependence within Francophone Africa (CFA franc / Euro), the challenge of heterogenous legal, fiscal and monetary regimes, ect... These, in the end, might be at the center of the hesitation of institutions like African pension funds and other managers of local reserve. One might also simply invoke psychological motives or the business environment in Africa. This would be characterized by uncertainty and social and political risks for business development, but this such explanation seems insufficient.
Proposed Solutions - Channeling Africa's savings into Local pension funds
A - Channeling Africa based Savings
With the development of the African economy, savings can become significant reserves. According to global banking specialist Yoann LHonneur of Velhon Partners, African banks often have too much liquidity (the ratio of loan-to-deposits is low, up to 2 times lower than in other areas). So, African governments need to create environment for trust through good governance with appropriate jurisdictions to ensure the confidence of players and markets. Trust is the key to success for any pension fund where a deposit of the member A is transformed into capital, which itself will fund the pension of retired B, it is as if A paid pension B in the system. We must therefore seek to mobilize temporarely financial flows that could be transferred.
Banks are still and will always be the key in the chain of savings. Banks and public policy makers should help develop long-term savings products, and set up regulated savings vehicles. This pool of savings will commit major investments (roads, ports, educational complexes). Thus, tax incentives (but not only) can encourage the public shareholding. To get there, it will have to avoid cannibalization between savings products and develop products that meet market needs. We should also pay attention to the taxation of insurance products. Given the low level of financial education of the population, there is need for extension of new products to the middle class.
Similarly it will inform institutional players about the economic potential of Africa. This will also explains the interest shown by foreign investors: economic growth, demographic structure, etc...
Indeed, within the global population structure, Africa appears to be the world's youth. It already has more than one billion inhabitants, with the largest number of young people in the world. By 2040, Africa will be home to one in five of the planet's young people and will have the world's largest working-age population. That population is estimated to increase to more than 2 billion people by 2050. With nearly 350 million young people, Africa will then represent 29% of global youth - against 12% today. This is a large potential market for asset management companies, especially pension funds. If pension funds already are positioning themselves towards an African future, they stand to pick up a lot of profit.
According to Stewart and Yermo (2009) the pension system has already reduced the rate of poverty trap by 13% in South Africa and has increased the income of the poorest 5% by 50%. In Kenya, the pension system contributes about 68% of total income for pensioners (according to Kakwani et al, 2006) and controls the wealth estimated at Ksh. 397 billion, equivalent to 30% of GDP (RBA, 2010). This shows that the endogenous development of pension funds will be economic development levers... If the governments are ambitious, pension funds will establish a presence in global markets. Because pension funds are part of a socio-historical construction, emphasis should be placed together on economic and moral imperatives. Indeed, pension funds are not only economic tools for effective investment. They are also part of the chain of the mechanisms of solidarity. It is necessary, then, to develop major pension funds and encourage more mainland pension funds and institutions of African origin to invest at home first. It is a patriotic commitment to the continent's development. This will bring added value in economic social crises, and social added value to economic crises, or if you prefer an economic response to a social crisis and a social response to economic crisis.
B - Channeling Diaspora's Savings
By focusing on savings held by Africans based overseas, we can channel alternative savings funds into formal structures which could help institutionalize at least USD 2 billion investable funds per year in Africa, funds towards sustainable African development. In fact, the members of the African diaspora - alone - remit savings from the west estimated at around USD 40 billion per year back home. This is already a significant share of the global remittances levels of USD 351 billion in 2012. World Bank estimates that the USD 40 billion figure will escalate to 200 USD billion in nine years.
The example of Homestrings, a recently established US based online platform, is an illustrative one. Founded by an African trained at Harvard Business School and at the World Bank, the platform allows qualified investors within the African Diaspora to select investment opportunities in Africa, ranging from private equity funds, bonds, and soon real estates. Forbes describes the alternative scheme as a traditional mutual fund structure meshed with crowd-funding platforms and online retail systems like Amazon. Many individuals from many countries of the wide African diaspora have already subscribed to Homestring products and the pace is keeping up.
At a country specific level, the most powerful example of the power of African savings directly participating in African development occurred in Rwanda. The Agaciro (Dignity in Rwandan) Development Fund, a solidarity fund initiated by Rwandans to improve the level of financial autonomy of Rwanda was launched on August 23, 2012. The contributions have reached over USD 32 million in less than 6 weeks after launch. This is in a country where GDP is just about USD 6 billion. This Fund will be used to support key priorities such as rural development projects among others. The Fund has been financed by voluntary contributions from Rwandan citizens in Rwanda, Rwandan citizens abroad, private companies and Friends of Rwanda. The Fund would not replace the traditional sources of state revenues, including donor aid, but will supplement them. The money will be managed as the governmental budget and audited by Auditor General. The example of the Agaciro Development Fund sets the tone that Rwandans will work together to drive their own development.
More policies should also be put in place to channel the revenues transferred by immigrants in pension funds. In this sense, African governments must do more communication (press, seminars, etc.) in order to convince immigrants and local businesses to invest in their home countries, in showing them the potential of the African economy and the importance of pension funds in the development of the continent. This educational approach should show how the pooling is cost effective and socially inclusive and how it is a patriotic act.
Furthermore, part of immigrants money can easily mobilized, since under mechanical solidarity they transfer funds to their families. For example by showing to immigrants that their incomes will pay pensions for the elderly members of their families or for themselves, there is no doubt that they will participate in this venture. We must therefore insist on the education of participants about tax levers and relying on banks.
All in all, we have seen that the concerns of Africa based pension funds or other structures of savings with regards to pan-African investments are not just economic related, the concern is also linked to trust and solidarity between generations. This is because the Social Security systems, and the pension funds relate to the individual and collective life of the people.
Looking at the world demographic trends, it is clear that the future of the world might just be played in Africa: Africa is the "youth" of the world. This is a reservoir of youth, reservoir with big investment needs. Moreover, if pension funds are intended to focus on the future, given the excellent growth rates in Africa we also hope that employees will become more numerous. Looking at the trend of emigration of people from China and Portugal and settling in Africa today, one can bet that it is likely that in the coming decades, we see strong movements of populations around the world into Africa.
In order to develop its economy, the continent, like China, should develop its own financial tools and its domestic market at the same time as it works toward economic integration. Such efforts are critical not only using domestic savings but also national reserves. Africa would benefit from investments coming from more established vehicles like the old Libya Investment Authority (LIA) which invested heavily across African countries. The continent should refer more to the Lagos Plan for autonomous development, self-centered and self-sustaining. Also, it is important that Africa develops its own monetary system, because the macro-economic policies are carried out not only as regards tax, economic environment, but also money. As theorized by Adam Smith, the founding father of classical economics, we have to seek a smooth functioning of the system, even if it is done by an invisible hand of the market.
So African governments should have a clear vision of development and establish good macroeconomic policies and public investment to anticipate the future.
Africa should remember these words of H.E. Houphouet Boigny, former President of Côte d'Ivoire "do nourish the child when he has no tooth, the same child will feed you when you will no longer have your teeth ."
*Prof. Mahamadou Lamine Sagna, PhD. is an economic-sociologist who has taught almost a dozen years at the prestigious Princeton University. He is also a celebrated author currently working on his books and devotes his thoughts and actions in Africa's development.
*Mr. Ibrahim Sagna, MSF, is a financial investor who started his professional career at the IMF. He is a Partner at Century Private Investments and serves as a senior advisor to leading Corporate and Sovereign entities. He spent the last 15 years investing in PE transactions across Africa on behalf of large Institutions.