The government has been urged to reform Solvency II and to push for greater consolidation in the defined contribution (DC) pension market to encourage investment in alternative assets.

In its report, Unleashing Capital, Policy Exchange outlined the regulatory challenges facing insurers when investing in productive private market assets, revealing that, out of the seven largest pension markets, the UK invests least in productive assets.

Analysis from Policy Exchange also suggested that around £400bn could be shifted if UK pensions were invested in line with the average, with the think tank arguing that it is “vital” to ensure that the markets are able to access opportunities.

The think tank argued that the UK is therefore sitting on some of the largest pools of capital globally, outlining a number of recommendations to help mobilise these pools for investment in growth businesses, infrastructure and other productive assets in the UK.

In particular, the paper argued that “urgent reform” is needed to enable the government to push for better regulation and to drive more consolidation in pension markets.

Although the think tank agreed that the government should proceed with plans to exclude performance fees from the charge cap, it suggested that this should be expanded to include the fixed element of carried interest fees, also encouraging the government to work with the asset management industry to explore other fee performance models.

More broadly, however, the paper argued that "the charge cap in any case sends the wrong signal to the industry", suggesting that the government would be “better off pursuing more aggressive consolidation in the sector”.

In line with this, the paper recommended that the government launch a consultation to identify and reduce particular administrative burdens hindering consolidation, and to examine ways to expand the value for members test to schemes over £100 million.

It also encouraged the government to use new ‘have regard’ powers in the Financial Services and Markets Bill to encourage consolidation, emphasising that consolidation should be “entrenched as a key aim of pension regulators going forward”.

“Pension consolidation is one way to increase pension investment in alternative assets, and secure better returns for members,” it added, suggesting that pension consolidation in Australia should be looked to as an example for the UK.

Alongside the need to improve the private pensions market in the UK, the paper recommended that the government consider the state of public sector pensions, and in particular pensions offered to government employees.

"Here, the UK should look to the Canadian example, where large public sector pensions deliver world-beating returns and are some of the most innovative investors when it comes to alternative assets of all kinds," it stated.

"The UK could learn from the governance and funding arrangements that make the ‘Canadian mafia’ of public sector schemes some of the best in the world."

In particular, the paper recommended that the government consider consolidating the Local Government Pension Schemes (LGPS) investment pools, as well as issue a call for evidence on shifting to public sector funded pensions.

More broadly, the paper also urged the government to reform Solvency II to "ensure that insurance regulation is tailor-made for the UK", and to use powers in the Financial Services and Markets Bill to encourage regulatory accountability.

Policy Exchange head of economics and author of the report, Connor MacDonald, commented: “British insurers and pension funds have some of the largest pools of assets in the world. UK Pension Schemes have assets second only to the United States, and the UK’s insurers have the fourth largest turnover in the world.

"Yet, UK pension funds and insurers do not invest as much in productive assets as their international counterparts, meaning that UK businesses, communities and projects are missing out on huge pools of UK capital. This is not ideal for investors, for policyholders or for UK economic growth.

“The UK can do more to ensure insurance and pension markets are well regulated, but that cannot be the end of the conversation. Local and national institutions must become better partners with institutional investors, to catalyse private investment in businesses and communities.”

Adding to this, Phoenix Group chief executive officer, Andy Briggs, stated: “This report shows that there are reforms government can make, which will spur investment and support economic recovery and growth at a time when the public finances are under immense strain.

“Their central thesis is the right one – namely, there are policy, regulatory and constitutional hurdles that need to be overcome if we are to unleash capital across the whole of the UK.

“Phoenix believes that a primary growth objective for the regulators is crucial in creating the conditions for large assets-owners to invest more. But, in order to have confidence in the regime and ensure a stable regulatory environment, the Bank should maintain its independence.

“Solvency II reform and better collaboration between local and national institutions leading to more investable opportunities will be critical in unlocking billions more investment over the coming years.”

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