Written By: Pádraig Floyd
Pádraig Floyd examines the aims of the government’s levelling up strategy and the particular implications of its suggestion that local government pension funds should invest in high growth british industries
There’s nothing new about “levelling up”. While the current government may consider it it’s very own, naysayers who claim it as a New Labour concept of the 1990s are also wrong – by about 130 years. Levelling up has always been associated with matters of equity, if not equality. It was first coined in debates about religious freedoms for Irish Catholics and the future of the Church of Ireland in the 1860s.
Today, it has been adopted by the current administration – or perhaps administrations for the pedantic – to encompass a notion that will better share investment in the UK, across the UK, particularly in areas that often are overlooked.
Laying it on thick
The government makes it clear at the start of the levelling up white paper, released in 2022, that despite talent being equally spread across the country, opportunity is not.
“Levelling up is a mission to challenge, and change, that unfairness,” said the white paper. “Levelling up means giving everyone the opportunity to flourish.
It means people everywhere living longer and more fulfilling lives, and benefiting from sustained rises in living standards and wellbeing.
This requires us to end the geographical inequality which is such a striking feature of the UK. It needs to begin by improving economic dynamism and innovation to drive growth across the whole country, unleashing the power of the private sector to unlock jobs and opportunity for all.”
And so, as part of that policy pitch, it was suggested that local government pension funds should be loosening the purse strings and investing in what the chancellor Jeremy Hunt referred to as “high growth British industries” during his visit to the International Monetary Fund’s spring meeting in Washington earlier this year.
False start for levelling up
The notion of pension funds shoring up or even bankrolling government infrastructure projects was rejected by many when former chancellor, George Osborn first touted it back in 2010. Since then, it has largely been politicians and industry leaders that are keenest on the notion of pension funds investing in the UK economy.
This would seem to be particularly true for defined contribution (DC) members. Proponents of this approach believe DC members will benefit more from long-term index-linked returns than the largely passive index tracking funds they rely on today. Though it must be remembered, that this is not always a preference for DC funds, but as a result of regulators and their regulation keeping DC schemes at arm’s length from these types of assets for many years.
Leaving DC aside for the moment, the government clearly had an appetite for investing local authority pension fund money within the UK when the paper was launched last year.
Though it’s seeking up to 5% of local authority funds, those funds may do little to increase the overall pool of money being channelled into UK PLC. After all, many funds will already have various different exposures to “local investment” – defined as investment in the UK – through their pools or even elective allocations which are more focused on their specific ESG or impact objectives.
We’re all in it together – though some more than others
Consolidation might be seen as the event to unlock this treasure trove that would inject not only capital but life back into the UK’s sluggish economy. Yet, accelerating the pooling process is a theme only recently addressed. Given the achievements pooling has already accomplished, many may see that as too much, too soon. See the May 2023 LGPS-Live session on the subject for more.¹
Some politicians and commentators are pointing to Australia as an exemplar of a pooling approach that has achieved huge scale. But Australia has had the benefit of far higher performing equity markets over the last five years than the UK. Indeed, if you look at the last two decades, the FTSE100 only achieved about three-quarters of both Australian and US benchmarks.
In any case, higher allocations to UK investments, particularly in a narrow spread of sectors, would have Paul Myners, City Minister in Gordon Brown’s government, turning in his grave at the potential for increased concentration risk.
In any case, larger funds do not guarantee better, faster or more effective investments in large, unlisted or illiquid asset classes. These consolidated pools/funds may still find it hard to find projects which will satisfy their requirements.
And with illiquidity comes risk. Just look at that brief moment in time last September when a mini budget caused a panic in the markets and funds with LDI strategies found themselves hard pressed to cover their positions.
But that was a special circumstance. There were governance gaps exposed by the liquidity event, but the danger exists if illiquidity is not managed properly or concentrated in the wrong kind of risk.
Of course, say the proponents, we want the illiquidity to benefit from the premium we will receive for investing. But it begs the question how we might view this had the government been successful from 2010 in convincing pension funds to invest more in highly illiquid, long-term plans.
Just how much might have been invested into HS2, the cost of which has more than tripled while the project may never actually be completed as intended.
In the end George Osborne only managed to attract about £1 billion – half the first year’s target – into the Pension Infrastructure Platform which, in 2020, was sold to the Foresight Group with assets of a little over £700 million.
But what, exactly, is levelling up?
The trouble with levelling up, is that it – and forgive the analogies – is a broad church which covers a multitude of sins. When discussing levelling up, one can legitimately be discussing simple equity or debt investments, infrastructure along the spectrum from the mining of natural resources to green energy, a pure ESG allocation, or even impact investments in the shape of social housing, urban regeneration or digital infrastructure improvements. Take your pick.
Some think it doesn’t matter. What’s more important is the quality of the assets and the reason they’re being invested in, says Dr James Wilde, chief sustainability officer at Phoenix Group, commenting on the government’s announcement of its Powering Up Britain project to plot the UK’s path to net zero.
“With the right regulatory framework and access to transformative investment projects that offer attractive returns, we could invest up to £40 billion in sustainable and productive assets to support economic growth, levelling up and the climate change agenda.”
Jose Maria Ortiz, head of impact investment at Palladium tends to agree. He says that when private sector investment flows into communities, economic and social development can flourish at scale. However, this requires communities to have strong business models that investors believe will deliver the returns they expect over time and have a manageable risk profile.
“Our global work has shown us that institutional investors are constantly looking for a pipeline of quality projects and opportunities in new areas where investment has not flown traditionally and where risk return levels of the investors are met,” says Ortiz.
Government must be engaged for it to succeed
It is easy to see why the government would be keen to couple the spending power of even 5% of public sector pension funds to private and government investment and perhaps the influence of more pension funds will ensure the kinds of infrastructure and social projects that “levelling up” may cover are more suitable – in terms of governance and a share of the returns – than was considered in the past.
But however keen, or in control the pension funds may be, the onus remains on government to provide a stable and predictable policy environment, to generate demand for the products and services the investors support, and to provide derisking mechanisms either through guarantees or other forms of support.
If these three components are well designed, can levelling up have a powerful effect on the society the investment is directed towards?
“Yes,” says Ortiz, “levelling up will unlock private sector investment and institutional capital, but it needs to be done with a long-term view to create the catalytic change needed for communities across the UK.”