People from around the world come to use the UK’s financial markets to fund their ventures, build their economies and make a return. Yet, for years, the UK has been poor at turning this natural advantage into investment here at home.
For example, the UK has the second largest pension pot in the entire world, with about £2.9tn in assets in 2020, amounting to 126 per cent of GDP. This is a huge pool of capital to use to invest in British infrastructure, British business, and British innovation. This exacerbates a long-standing problem in the UK, which is a lack of institutional and patient capital in the domestic market.
Compared to Canada, another country with a large pool of pension resources and strong financial markets, the UK underinvests in many of the most productive assets. Trusted pension funds in Canada invest about 7.3 per cent of their assets in infrastructure, and 12.7 per cent of their assets in private equity. Yet, in Britain, the occupational pension industry (both public and private) invests about 8 per cent of its assets in alternatives, according to ONS statistics. If the UK were to invest an additional 2 per cent in UK alternative assets, it would unlock an additional £56bn – still only half of what is invested in Canada.
The UK also punches below its weight when it comes to venture capital. Despite being the second largest pension pool in the world, pension funds in the UK and Ireland account for only 6 per cent of total pension fund investments in venture capital across all of Europe. This is about generating a huge boost not just for our economy, but for British pensioners.
Indeed, this is about the entire institutional investor sector. Solvency II regulations make it harder for insurers and annuities businesses to insure pension assets and to invest in alternative asset classes themselves, meaning that foreign pension and institutional investors can benefit from UK assets which our own firms can’t.
The ambitious package on Solvency II must ensure that any rule changes encourage investment. Within the industry, there is real fear the Prudential Regulatory Authority, by reforming arcane rules around pricing risk will make it more difficult, not less, for institutional investors to invest in their own backyard. Often, regulators have too little skin in the game and don’t feel the same competitive pressure firms do.
Unrated investments, like those into small and medium businesses, also should not be penalised because they don’t operate in more developed or public markets. Currently, UK institutional investors have to conduct more risk assessment and checks than their competitors to invest in the very firms that are the future of the UK economy.
Similarly, the next government should look at ways to allow firms to clear regulatory hurdles before investing. Currently, many insurers are caught in a catch-22, where they have to wait months to confirm that an investment conforms with the regulations, and so don’t want to invest in the assets in the first place. Meanwhile, international competitors unconstrained by these rules are snapping up the best British deals.
Consolidating our pension market will also make it more efficient. There are about 27,700 trust-based defined contribution pension funds in the UK, compared with 179 superannuation funds in Australia – another country with a strong pension regime.
Our private investment offers us a massive opportunity. And if we don’t take it, other countries will. There are literally trillions of pounds waiting in the wings, and we need to do its utmost to put that capital centre stage.