Governments which demand to be the only investor can steal their citizens' savings

The world’s 300 largest pension funds have managed assets worth almost $9 trillion.  That’s a one with 12 zeros.  And they’re not all based entirely in the rich North.  South Africa’s Government Employees Fund is – with $96 billion – one of the 20 largest in the world.

Given the importance of this money, fund managers are tasked with investing only in low-risk opportunities.  The money is investors’ life savings; cash meant to maintain people in a semblance of their original lifestyle once they retire.

Yet that money is also immensely attractive to governments.  The US’ Social Security is nominally worth over $1 trillion.  Or it is worth nothing at all.  Private companies have to account for the funds they manage but governments can offer an IOU and issue a bond to finance their pensions.  So the US government guarantees Social Security but the money is ... well, not all there.  In which case, it isn’t an asset, it is a debt and the cost of interest payments make the investment worth less than the return.

At least Social Security was set up to be managed by the state.  Not so fortunate the 10 private pension funds nationalised by the government of Argentina in 2008.  $30 billion was swept up into government coffers to be spent where President Cristina Fernandez felt it would be of most benefit.  The immediate result was an 11% collapse of Argentina’s stock market, as well as increasing the cost of government borrowing.

The reason to have multiple pension funds is to ensure that risk is spread throughout the economy and that funds are managed where they can be seen.  If a bank offered to keep your money and offered you only an IOU in return, you probably wouldn’t bank with them.  Governments can get away with this sort of thing because they have an army.  Or maybe you have overwhelming faith in the honesty of politicians?

Yegor Gaidar, a Russian political reformer considered his country’s experiences with state-led capitalism in a book published shortly before his death in December 2009. “The end of socialism does not automatically create a competitive free market, but can lead, as it has in Russia, to a dangerous version of capitalism where the bureaucracy considers the state its property and uses its mechanisms for personal enrichment.”

This asymmetry, where governments or other powerful monopolies can exercise tremendous unconstrained power is known as “rent seeking” by economists.  In this case “rent” does not mean earning profits from economic transactions (“profit seeking”) but that such income is derived through the manipulation or exploitation of the economic environment.

Imagine that you lived in an apartment where you were not allowed to move out, where the landlord had access to your income, and could charge you what he liked to stay in that apartment.  That is rent seeking.

The Soviet government claimed that this rent seeking permitted them to direct the purpose of the nation to where they, as a committee, felt it would be most important.  They set up artificial science cities where scientists and engineers lived as highly-regarded captives to perform wonders at the state’s behest.  And so the Soviets enjoyed nuclear weapons but no food.

Ditto in Mao’s China, where the famine of 1958 to 1961 saw China purchasing weapons from Russia with local grain.  Mao’s purpose was to build up an industrial society and a fearful military force.  In the process some 38 million people starved to death.

It isn’t that governments are necessarily bad at allocating investments.  It is that there is only one of them. 

The more investors, the greater the variety of investments and the lower the risk from one of them getting it wrong.  If there is only one investor and they have all of the money then the cost of failure is apocalyptic.