Peter Davis: Fifteen years on, is it time for a review of KiwiSaver?

Sensible money management for retirement takes careful planning. Photo / John Borren

It is just over 15 years since, on July 2, 2007, KiwiSaver, New Zealand’s auto-enrolment, work-based retirement savings scheme, officially started.

How has it fared?

Over three million people are enrolled, close to the size of the active workforce. Funds to the value of $90 billion are being managed, equivalent to nearly a quarter of the country’s GDP. And the initiative has drawn international interest, with the United Kingdom introducing a very similar scheme.

Are there any downsides?

There are several. Firstly, one-third to a half of those officially enrolled are not actually contributing. Secondly, the average holding is under $30,000, which, even allowing for non-contributors and youthful savers, cannot generate an adequate retirement income, and under current policy settings it is hard to see this changing.

Finally, the system of converting investment returns into final retirement savings is very inefficient.

The annual average fee being charged by KiwiSaver providers is about 1 per cent of holdings. To the novice saver this may not sound a lot, but it is likely to translate into a shortfall of 20-30 per cent in final savings.

In other words, compounding that small fee percentage over a lifetime of saving translates into a very considerable depletion of final retirement funds. This fee level is, in some instances, almost double that of the comparable system in the UK.

By comparison, the New Zealand Super Fund has reported annual costs of around 0.3 per cent over the last 10 years, with annual returns of about 10 per cent.

Some KiwiSaver providers are able to match that fee level, with good returns, but at the other extreme are providers charging 1.5 per cent and more. This impression of an uncompetitive market is reinforced by the sheer number of providers (nearly 40), suggesting current margins allow many small players to thrive while charging high fees.

The Financial Markets Authority (FMA), the ostensible regulator of the sector, confirms that all is not well with the competitive playing field in the KiwiSaver sector. In a number of reports, it has found the following:

• Where scale (i.e. size) of a KiwiSaver provider exists, its benefits are typically not shared with members.
• There is no systematic relationship between fees charged and returns received.
• There is no systematic relationship between fees charged and degree of active management.
• Active funds – that is, funds that use a stock selection rather than a passive, tracking approach – typically do not outperform their market index after fees.
• Fund managers are often not using an appropriate market index or benchmark for judging their fund’s performance.
• Managers commonly pay commission to third parties for new customers, without adequate disclosure.
• The FMA’s KiwiSaver Tracker shows a range of 20-30 per cent investment returns going to fees.

Do these supposed shortcomings matter?

After all, New Zealand has had mixed success when it comes to encouraging competition in key markets, so maybe KiwiSaver is no different.

While there seem to be some wins in the telecommunications market, the Government had to intervene to move the Commerce Commission along in the supermarket sector, and there remain major doubts about the effectiveness of competition in the electricity market.

By contrast, the public pressure for intervention with KiwiSaver is minimal, although the Australian government felt bound to ask its productivity commission to investigate efficiency and competitiveness in its (compulsory) superannuation scheme after years of pressure and complaints. Among other things, that inquiry identified high fees as an issue.

So, there is a prima facie argument for a review on the grounds of competition and efficiency alone. But there is also a moral case.

KiwiSaver has been world-leading in introducing a retirement scheme that, while it is ostensibly voluntary, operates a form of “soft compulsion” by making it easy for people to join and hard to leave by shaping their choice architecture.

Given that, there is an argument that novice savers entering the scheme should not be left to an asymmetric and opaque market of savvy financial providers. After all, if the saver’s choice architecture has been massaged (for good policy reasons), then arguably, so should that of the financial provider!

There is also the issue that, even under current policy settings with KiwiSaver as an adjunct to National Superannuation, the overall income replacement rate at retirement for New Zealanders at and below the average wage is only 40 per cent, among the lowest in the OECD.

Indeed, the main beneficiaries from the scheme seem to be middle and higher-income owners (since they are able to reach target retirement savings more rapidly because of their higher incomes).

There are, then, good reasons for a review of KiwiSaver: on the grounds of lack of price competition and inefficiency in generating adequate final retirement savings; because of the institutional asymmetry between saver and provider that is embedded in the programme; and on account of a fundamental policy shortcoming in its failure to help New Zealanders who are solely reliant on National Superannuation to better prepare for a more comfortable retirement.

After 15 years - time for a review?

- Peter Davis is chair of the Helen Clark Foundation, an independent public policy think-tank.