Just seven countries are responsible for 92 per cent of the staggering global pension assets totalling 48 trillion dollars.

Take the Netherlands, for example: it may not be a member of the G7, the leading industrial countries, but with 1.4 trillion euros in national pension assets it is one of the P7. This group of countries with the largest amounts of money put away for old-age pensions for their citizens is led by the United States, with pension assets totalling some 30 trillion dollars. With just 360 billion dollars, Germany comes in 22nd place. This seems set to change soon though.

While most of the Dutch are saving significant amounts of money for their old age – usually as a compulsory part of their labour contract – since 1957 most Germans have only received a state pension based on a ‘pay-as-you-go’ model, where people with paid employment make pension contributions to government, which funnels the funds directly to pensioners. In the Netherlands, this is only done for the basic state pension, the AOW.

‘The primary function of the financial sector has shifted to the preservation of wealth’

German old-age pensions are based almost entirely on the pay-as-you-go system, which according to the government is no longer sustainable.

The ageing population means that fewer and fewer people in paid employment have to generate the income for more and more pensioners. The German government has therefore proposed making annual capital injections of 10 billion euros for the next 15 years to create a savings allocation in state pensions intended for investment in the international capital market.

Benjamin Braun, a political economist and researcher at the prestigious Max Planck Institute in Cologne, is critical of the German plan for increasing pension assets for the long term.

He warns about such assets’ formidable power, since they will make the financial sector even more powerful. ‘The growth and accumulation of institutional capital is the main fuel for financialisation,’ he recently wrote in the German edition of the American magazine Jacobin. As a consequence, the economy is increasingly being fashioned to suit the interests of asset owners.

According to Braun, ‘financialisation’ – the ever-increasing influence of financial markets and institutions – ‘drives the extreme and constantly growing inequality’.

He is notably concerned about private equity investments, particularly in health care. ‘Who wants their parents to live in a nursing home run by an investment management firm like Blackstone?’

Follow the Money met with Benjamin Braun at the Cologne branch of the renowned Max Planck Institute. The building is a 1980s eye-catcher, all steel and curves, where he and his colleagues study the relationship between economic, social and political processes.

Although Braun comes across as contemplative, he speaks about his academic work with palpable enthusiasm, despite the troubling developments he describes.

According to you, the growth of the financial sector is damaging to the real economy: the tangible world of factories, trade in goods and all of the non-financial services. But doesn’t the real economy need the financial sector?

‘That’s the traditional argument that economists use. It was also often raised when pension funds were introduced, claiming these helped to develop the capital markets. This was good for economic growth since it allowed companies to find financing more cheaply. But in the past 10 to 15 years, more and more studies have indicated that the financial sector can become too big, and once past a certain point can slow economic growth.’

How do you explain that?

‘One explanation is the focus on creating shareholder value in the short term.

Up until the 1990s, shareholding in Western Europe was mainly a concern for close-knit domestic networks.

In Germany, for example, the insurance company Allianz, Deutsche Bank and the state were important shareholders in many of the major companies. These companies, in turn, had interests in each other and had people on one another’s boards. This was a relatively small group, which – although perhaps susceptible to corruption – was in it for the long haul.

There is a clear contrast with shareholding in the Netherlands and Germany today, which has become highly internationalised. It is dominated by institutional investors and asset managers, who do not have the same focus on the long term.

They are primarily concerned with increasing shareholder value, an objective developed in the US before spreading across the world; this introduced a bias for the short term. A company’s long-term viability has lost priority.

Research also indicates that the growth of the financial sector – subservient as the latter is to asset ownership – is linked to growing inequality.

This ‘upward redistribution’ exerts downward pressure on aggregate demand. If people in the general population had more money, they would buy more; the rich, however, save more, which is not good for company profits and thus also not for investments. This is another way in which financialisation decreases the economy’s growth potential.

And then there is a connection between financialisation and lagging investments in the public sector: in roads, rail networks, education and scientific research.

Pressure from international investors has made governments more cautious about levying taxes on major companies and shareholders, which has decreased governments’ fiscal space. They are also increasingly concerned about the credit ratings of the government bonds they issue. So public sector cutbacks are also related to financialisation.’

You say that an important feature of asset management capitalism is that asset prices – for instance share prices – can be just as important as wages, especially in countries like the Netherlands where the pension system is financialised. Could you explain this?

‘You don’t have to be a Marxist to think about the economy in terms of capital and labour. Part of revenue goes to labour and the rest to capital.

A capital funded pension system like the Dutch one means that over half of the population are capitalists to some degree. Their present pay is earned with labour, but their old-age income depends on the capital that the pension funds use to earn money.

Trade unions used to fight for as high wages as possible. Nowadays their members also have an interest in higher dividends or central bank policies that benefit investments. When wages increase, less is left over for the shareholders. This means that share prices can drop, and therefore also the pension fund returns. These days, the way in which the economy should be managed is much less obvious for unions.’

Can this change also be observed in politics?

‘Financialisation has made life much more difficult for the Social Democratic parties in Europe. The middle classes, who live off salaries and not off assets, often do have equity, but this is tied up in a house or in a pension fund. This part of the electorate is best served by policies that keep house prices and pension investments stable.

This is at odds with the wages-driven growth model that the Social Democratic parties traditionally promoted, where the state ensures high wages and low housing and daily sustenance costs. This model is clearly incompatible with a financialised housing market and financialised pension system.’

Does this also apply to countries that only have a pay-as-you-go system?

It makes a difference if your pension system is primarily capital funded like in the Netherlands, or primarily pay-as-you-go like in Germany.

In the pay-as-you-go system, a fixed percentage of current wages are disbursed directly to pensioners. This has the distinct advantage that if wages increase, more money will flow into the pension system. In such a system, Social Democratic parties will therefore support higher wages more readily.

Of course in practice this mechanism can be undermined by an export-driven economy, which requires wage moderation in order to remain competitive, especially in sectors that operate internationally. The extreme wage moderation in Germany – a country focused on exports – has demonstrably limited the advantages for pensioners, while company profits have risen.’

Would asset management capitalism exist without pension funds?

‘Not at this scale, and not if all countries would have a pay-as-you-go system.

We also would not have such a large private equity sector, which is continuing to grow and becoming increasingly dominant.’ The profitability of the sector is ‘at the expense of health and safety,’ Braun wrote in an essay published last year entitled Fueling Financialization: The Economic Consequences of Funded Pensions.

In the meeting room in Cologne he added: ‘Investments made by Dutch pension funds in private equity and hedge funds have shot up too, from 40 billion euros in 2010 to 160 billion today. In recent years this has even sped up.’

Is this because asset managers have been making more and more sectors accessible to financial capital?

‘Private equity’s efforts are the main reason that the range of investment options for pension funds and other institutional investors has expanded to such an extent in the past twenty or thirty years. When you invested your money on Wall Street in the past, it never ended up with local newspapers or veterinary clinics. These were the private property of local small entrepreneurs.

The scope of private equity has increased tremendously in Europe as well, infiltrating sectors where you would least expect it, in what you could call public infrastructure. Healthcare for example.

Hospitals, clinics and nursing homes have a stable income since people will always be falling ill and are living longer more often. But also because European welfare states fund them directly or from collective insurance.

This is very attractive for pension funds and other institutional investors who are always on the lookout for precisely such an investment: long term with a steady income stream. This is why private equity is so fond of healthcare.

Another example is real estate. When Berlin was in financial problems in the 1990s and 2000s, the municipality sold off quite a lot of its social housing to private equity investors and other financial firms. Everything can be privatised like this, including motorways, rail lines and utilities.’

Which factors contributed to this development?

‘In the past, private parties could not invest in public infrastructure very easily. But the rules changed under pressure from lobbying by institutional investors. This often happened because governments were wary of raising taxes or incurring more debt. This meant that they could benefit from privatisation too.

Governments also facilitated this trend in other ways than just making private funding of public infrastructure possible. They also subsidise such investments by bearing the risks, which are often major ones.

Take, for instance, the guaranteed compensation of start-up losses incurred in major infrastructure projects. Or guaranteeing a minimum revenue for an investor, for example when a new toll road is used less than predicted. This is what my colleague Daniela Gabor describes as state de-risking for investors.’

You write that even when industrial production and job growth are stagnating, ‘unproductive’ company takeovers and restructuring can flourish thanks to the money from pension funds. Yet the academic world still often refers to the added value of private equity.

There certainly is a case to be made for acquiring companies which are being run inefficiently in order to restructure them and sell them off at a profit five years or so later.

But the value that private equity creates is primarily for the investors. The main reason for this is the structure of the most common type of deal: the leveraged buyout.

In addition to the investors’ money, such a financing construction involves a lot of money which is borrowed from banks. The party that has to repay these loans is not the private equity firm, but the company that the latter is acquiring. This construction ensures that a major portion of the increases in value lands in the pockets of the private equity partners and their investors, while simultaneously protecting them from losses.

In addition, the investment horizon of most private equity deals is just five years. The value creation also does not take the long-term interests of the existing employees into account. It also ignores the standards – including the social ones – that would usually apply to how a company is run.

Companies could, for example, choose to retain older employees in order to ensure having motivated and loyal staff in the longer term. From a short-term perspective, investors may create more ‘value’ by making these employees redundant.

Such mechanisms do not lead to money being reallocated to the most productive companies, nor do they make companies more viable. Numerous studies show that an increasing number of companies are unable to meet their long-term obligations after a leveraged buyout.’

But aren’t these just the occasional horror stories?

‘This isn’t rocket science. If someone is making a 20 per cent return, this money has to come from somewhere. And there also usually isn’t some magic formula for making a company twice as productive by simply showing up and restructuring it.

In 2021, a study that looked at 15,000 American nursing homes over the course of two decades showed that the chance of dying was much higher in one owned by a private equity entity. Besides in healthcare, negative consequences of private equity investments have also been shown elsewhere, such as lower wages, higher consumer prices and lower production quality. The general criticism of private equity is of course strongly disputed. The financial interests are huge. It is to the private equity industry’s advantage to present itself as a force for efficiency. But do you really think that anyone acquainted with the leveraged buyout model would really like to have their parents cared for in a nursing home run by Blackstone?

It would be greatly beneficial if private equity was kept out of healthcare and public infrastructure. Quality in these industries is almost entirely determined by the staff’s education and motivation and human interaction. Private equity can’t improve this.’

According to you, asset management capitalism also has turned corporate governance upside down. What changed?

‘In the 1960s and 1970s, company managers were still really in charge. Shareholders didn’t have a lot of power yet. This changed in the 1980s and 1990s, first in the US and later elsewhere too.

Small shareholders enjoyed growing protection against management and majority shareholders. This was mainly the consequence of lobbying by pension funds. At the time, these were still the largest institutional investors, although they seldom owned more than 1 per cent of an individual company’s shares. They were large enough to be heard, but small enough to be able to pull out if management was unwilling to listen to them.

But starting in the 1990s, pension funds began outsourcing investing to external asset managers. On a global scale, this led to an extraordinary consolidation in the investment world – a development that was closely linked to the rise of passive investment in index funds.

In the United States, major American asset management firms, like BlackRock, Vanguard and State Street, together own 22 per cent of an average company listed in the S&P 500, the most important American share index.

On paper, a few asset management firms have a lot of power, but in reality they are not very interested in the performance of individual companies. This is due to the fact that the primary objective of their index funds is to match the return of the entire market. An index fund does not need to outperform the market.

In addition, index fund managers earn their money in fees. The returns flow to their clients, most of which are pension funds. For asset managers, engagement [actively becoming involved with individual companies] is just an expense.’

Index fund fees are often a percentage of the capital being managed. When an investment’s value rises, so do the fees.

‘That’s right. If the stock market rises, asset managers earn more. For conventional asset managers, the stock market indexes are the most important indicators. But they make investments in thousands of companies. The individual performance of company X or Y does not have a great deal of influence on the value of their investments.

What does have a lot of impact is monetary policy, like interest rate adjustments. So when you’re an asset manager, you might prefer to spend your time lobbying the central bank, instead of on the corporate governance of each individual company.’

Asset managers still emphasise the importance of engagement though. Larry Fink, who runs BlackRock, writes an annual letter in which he reminds CEOs of their social responsibility. And asset management companies often publish engagement reports.

‘While they may do so for a handful of companies, they have an interest in 10 to 15 thousand companies across the world. Bear in mind that engagement is a marketing tool for asset managers.

You can also question the effectiveness of engagement if there isn’t actually an exit option available. BlackRock and Vanguard can’t just sell off the shares in individual companies since these are part of the index. You also can’t sell off a 5 to 10 per cent stake without the share price collapsing.

The current corporate governance model, which gives all of the power to shareholders, is the pension fund model of thirty years ago. As major institutional investors, they had a say in matters, but also the option of pulling out of their investments. These days there are other players involved with other interests.

Are you referring to interests which are not aligned with those of pension fund participants?

‘Once you realise that BlackRock owns shares in all of the listed companies across the globe and does so in every industry, wouldn’t you expect it to actually operate like a social planner? One focused on profit maximisation but with a long-term vision? Because asset managers are operating on behalf of long-term investors.

This optimistic take on asset management capitalism – the promise of universal ownership – has not been fulfilled.

This promise should, for example, lead to sustainability being considered very important. You would expect such a universal owner to be the most engaged climate activist imaginable. Although asset managers make some claims in that direction, for the past couple of decades they have taken little action.

Their ultimate goal is always to manage as much money as possible, at the lowest possible costs. And if pension funds and other institutional clients fail to push them any harder, asset managers in turn will not increase the pressure on companies.’

You warn about the negative effects of financialisation, which is constantly increasing. How long can a society allow this to continue?

‘That’s hard to say. One of the limitations is inequality. Societies can bear only a certain degree of inequality before social turmoil develops – or socioeconomic collapse could even occur. Here in Europe, in this regard we seem to be lagging behind the US, which seems to be on the verge of this.

The climate and biodiversity are of course the ultimate limiting factors. Private funding has failed as a corrective mechanism with regard to these. It seems unlikely that we can expect an energy transition led by the likes of Blackstone or BlackRock anytime soon.

Ultimately, there are a number of hard limits, whether social, political or environmental. These will leave assets, and therefore investments, stranded. This could be because the state renationalises social infrastructure to some degree or because the state tries to tackle inequality by levying higher wealth taxes.

This could lead to countries reassessing the pros and cons of pensions based on a savings model or on a pay-as-you-go model. 'Bear in mind, and this is very relevant in Germany today, a pension system’s design should never just be a matter of pension policy.' 

Translation: David Raats