Kiwisaver divestments

I really wish there were some way to leave Kiwisaver. The government's proposed changes to it introduce political risk I find to be entirely too great.

And, it's for something basically futile: trying to reduce greenhouse gas emissions by divestment.

I go through it in last week's print NBR; an ungated version should be on our website tomorrow is here.

Some snippets:

The government has crossed a bright-line rule in its proposed changes to Kiwisaver.

Its proposal to require default funds to divest of any fossil fuel stocks is incredibly unlikely to have any direct effect on greenhouse gas emissions.

To the extent it does, it will only be by reducing returns for investors who stuck with the default funds. Even in that case, it is doubtful to be cost-effective. The government could do more by working through the Emissions Trading Scheme.

And it sets bad precedents for political interference in Kiwisaver investment.

If that were not bad enough, it also means writing climate policy could be done on-the-hoof in response to political demands rather than after careful assessment to ensure our collective efforts to reduce greenhouse gas emissions do the most possible good.

Climate change is too important to address with half-baked initiatives, and retirement savings are too important to become political footballs.

Let’s take each of these in turn.

The government is laudably working to strengthen the emissions trading scheme (ETS). Under the strengthened scheme with a binding cap, there will be a comprehensive and rising price on carbon which will incentivise innovation.

As American economist Alex Tabarrok puts it, a price is a signal wrapped in an incentive. Anyone able to reduce greenhouse gas emissions at a lower cost than the current price in the trading scheme can profit by reducing their emissions and selling the resulting credits – or avoid purchasing costly credits. That ensures the lowest-hanging fruit are the fruit first picked, rather than reaching first for the apples higher up the tree.

Divestment mandates, by contrast, are unlikely to have any direct effect on global carbon emissions. The only direct way they might is by raising the cost of capital for fossil fuel industries, increasing the hurdle rate for new investment projects. That cannot happen unless the mandates push down returns for the funds making those divestments. But as those funds divest, other investors will be attracted to invest by slightly higher returns.

In other words, the mandates push against price signals whereas a carbon price works with price signals. 

I then go through the silliness of basing council consenting decisions on greenhouse gas implications of the project, where those gases are already accounted in the ETS.

We need to be establishing precedents that carbon mitigation measures are properly costed.

Government needs to know the cost per tonne of emissions avoided by different measures so that we can focus on the areas where the most good can be done. Instead, we have a politically driven initiative unlikely to do anything to reduce emissions.

The precedent for Kiwisaver is also destructive. It ignores the entire economic rationale for the investment scheme and invites future depredations.

The behavioural economics underpinning Kiwisaver holds that default options can matter. They are ‘sticky’ – people can be slow to switch to the option they really want. Setting default options to line up with most people’s preferences reduces those switching costs. If most people wind up opting into a retirement scheme eventually, at fairly high cost, why not switch the default?

A wide variety of ethical investment funds are already out there, each catering to different preferences. Mindful Money provides a helpful tool for people choosing a fund which best matches their ethical preferences. But how many people really want to opt into them? Switching the default will only increase switching costs rather than reduce them.

And where the precedent is established for forcing default Kiwisavers into funds matching the ethical preferences of the government of the day, it is easier to justify further changes with changes in government. Mandates requiring that funds prioritise domestic investment are far too easy to imagine.