Friday, 1 January 2010


While the debate on what to do with the massive budget deficit rages on, we must not forget that the Greek state owes over EUR 17bn to the country's own pension funds . This does not include civil servants' pensions which are, of course, unfunded. This doesn't mean we're not paying for them; it only means that we have no way of knowing how much we're paying for them in total, or what the shortfall is.

Now here are some things you may not know about Greek public pension funds:

  • They were not allowed by law to invest outside the country until 2007. They are still not allowed to invest outside the EU.
  • They are not allowed to invest more than 23% of their portfolios in "risky assets" (i.e. more than three quarters have to go into Greek government bonds, which pay very little interest, or central bank deposits, which pay none). This a lower risk tolerance than any other OECD country.
  • They are not run by fund managers and very rarely change their asset allocations.  
OK, so our funds are under-diversified and extremely risk-averse (an oxymoron; a risk-averse investor would try to diversify as much as possible) and they are run by committee. Is that such a big deal?

Well, for one it means the returns achieved by our funds are very small. These guys calculate that the price we pay for the asset allocations restrictions alone is about 3% on total assets per year (though granted this only applies to 2000-05; it would be less in 2008-09). As Greek pension funds are currently worth just over EUR 30bn, this means we're losing just short of one billion per year.

But there is more; the Greek state is obliged by law to take care of the shortfall if our funds aren't making as much as they pay out (they don't, hence the state's debt to the funds). The shortfall in NPV terms was at 13% of GDP in 2000 and is projected to rise to 24% by 2050. Only part of this actually manifests as an annual shortfall, but it is instantly added to the government's budget deficit.

One recent answer to all this LOLery was to merge our pension funds. Fund managers, if any had been consulted, might have objected to this on the basis that bigger funds achieve worse returns. This is especially true when they are forced by their size to saturate small or illiquid markets. Now, recall that pension funds could until recently only invest in Greece, a very small market for equity, property or indeed anything risky. It's a recipe for EPIC FAILZ.

Is this all? No it isn't. I said earlier that our pension funds are forced to buy bonds and/or hold cash to the tune of 77% of their portfolios. Let's go over this. The pension fund's portfolio is made up of employees' and employers' contributions, which are mandated by the state, much like a tax. Buying government bonds means lending money to the government. Buying BoGr deposits ("cash") means lending to the Bank of Greece.

Basically this means that successive Greek governments have forced Greek employees and their employers, by law, to lend them money for years. And it also means that they are not so skittish about running huge deficits because - you guessed it! They can force employees and employers to make up for it by buying Government debt.

You would think there is no more room for EPIC FAILZ in this system, but of course there is. In November, the last Government decided to pay off nearly EUR5bn of debt to the public pension funds by issuing bonds. The bonds were sold to raise money and the debt was to be paid off in installments using this money.

This is a case of spot-the-FAIL. To help you, let's simplify. F, a fund, is owed EUR100 by the government, G. G issues and sells a bond for 100 euros, incurring charges of EUR5 in issuance fees and another EUR5 in brokerage fees (let's call it 5% each, a figure I just made up). G takes EUR100 in its hands and pays F EUR100. By law, F has to use 77 of this to buy bonds, which it does.

A quicker alternative would be: G issues a bond for EUR100, but sells only 23/100 of it. It incurs EUR5 in issuance fees and another EUR1.15 in brokerage fees. G takes 77/100 of a bond and EUR23 in hand. It gives F the 77/100 of a bond, which F has to buy anyway, and gives F EUR23 in cash.

In the second scenario, G has saved 3.85% on this whole transaction. In real life, the fee structures are different but the same rules apply. The Greek government lost millions of Euros on this through sheer muppetry.

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