It would be hard to argue that the economy isn’t in worse shape now than if the UK hadn’t exited the EU while a proposed £50bn private wealth fund could be designed so that most investment is outside of London and the south-east, says Lord Mayor of London Nicholas Lyons.
On a visit to Wales, where four investors from the City talked to a number of high-growth potential fintech firms, the Lord Mayor said the UK Government’s planned reform of Solvency II rules - as a result of leaving the EU - were sensible and that current capital requirements were “ludicrous," but cautioned that it might not see a rash of projects that otherwise couldn’t have been done.
City veteran Mr Lyons is also a member of the UK Capital Markets Industry Taskforce, chaired by chief executive of the London Stock Exchange, Julia Hoggett. The taskforce is looking at how institutions could back a mega £50bn private wealth fund to support UK firms to expand - which could be bolstered if the UK Government invested alongside it with its own sovereign fund.
The UK Government is positioning a reform of Solvency II as a positive Brexit benefit story - forming a central piece of a string of measures for the financial services sector designed at unlocking investment into the economy.
Removing the requirement on firms, particularly within life insurance, to ring fence too much capital against liabilities, believes the UK Government could see a Solvency II reform dividend of £100bn.
On Brexit Mr Lyons, who will hold the Lord Mayor role for a year and also heads up the City of London Corporation which has a remit of supporting the UK’s financial services sector, said: “My view on that would be that Brexit did not try and deal with the services industry, but just dealt with trade. The City was basically put to one side in those negotiations and there wasn’t too much support in the City for Brexit. Have we seen some damage to the economy because of Brexit? A lot of independent reports would suggest that we have and the Bank of England would suggest that too. I think it is difficult to be terribly precise because of the impact of Covid and the energy crisis, but directionally you would say it would be hard to argue that the economy isn’t in a worse shape now than if we had not exited. Against that there are people who would say, and we have to listen to them, that we have yet seen any of the benefits of Brexit and Solvency II is maybe just the start of something.”
Solvency II
On the current Solvency II regime - which is also being reformed in the EU also to support greater investment activity in infrastructure, he added: “There are so many layers of buffers that the level of capital that is being asked to be retained by long-term savings and insurance companies is ludicrous.
The changes being talked about relate to some fairly technical aspects about some of the buffering, called the risk margin and the fundamental spread, that will effectively determine what the discount rate is by which one discounts future liabilities against which you have to hold assets. If you enable the financial institutions to invest in some asset classes that are regarded as illiquid, meaning they don’t have a listed price everyday, which is why we are talking about long dated infrastructure loans, the yields on those are better than corporate bonds.
"And if you get enhancement of 75 basis points on a return on your assets, then you have to hold less capital against those assets. What that means is that there will be surplus capital, but what the regulator does not want to do is for that surplus capital to be just ‘dividended’ (back to shareholders) out of the organisation. What they want is for that surplus capital to be redeployed to support a growth in assets.”
On the UK Government’s position that reform could see £100bn invested he added: “There is, I think it is fair to say, a spectrum of expectation amongst the players in the space as to what they are going to do. I am always anxious about being too prescriptive about what you ask financial institutions to do. If you at one of these organisations, like L&G and Phoenix, you will find that the assets they are investing in are absolutely all over the UK and there is a very conscious desire to invest and being able to demonstrate that they are investing in lots of different regions around the UK.”
He said that investors were trying to create sustainable businesses. He added: “If you want to do that you need to look after your customers, your reputation and your people. So, if there was a different of 5 or 10 basis points between a project in a poorer area of the UK versus the south-east then I think you will find that these long-term savings organisations would take a slightly inferior return and invest there, because they would recognise there is a social responsibility."
The Lord Mayor said whatever types of projects - including public-private - that are invested in as a result of Solvency II reform, it would bring the UK into line with many other competitor economies.
Mr Lyons, who will hold the mayoral role for a year and is on sabbatical from his chairmanship of long-term savings and retirement business Phoenix, said: “At the moment there are overseas investors who are able to make those infrastructure loans, which some of the UK firms are not able to do because of the constraints of Solvency II. So, by removing the constraints, I am not saying you are necessarily going to see a great big rash of infrastructure projects that would otherwise not be done, but you are going to see them financed by UK financial services firms using UK pension money to do so.”
He said that funding would likely come via defined benefit pensions. Mr Lyons added: So,if you can replace £500m of corporate bonds yielding 5% with £500m of an infrastructure loan yielding 5.75% that is great, because you are having to hold less capital against it.”
£50bn private wealth fund
On the Capital Markets Taskforce plans for a private wealth fund he said: “What we are looking at is why don’t we create one large fund and £50bn is what I have talked about. I would like that to be funded out of defined contribution pension schemes. We have got about £880bn in defined contribution pensions growing by almost 10% a year. So, if you took 5% of that you would be £40bn just like that and adding £4bn a year you would be at £50bn reasonably quickly.
"The interesting thing is that for our whole pension system there is 3.4 trillion pounds, which is second only in size to the United States. However, only 7% is invested in infrastructure, property and private equity, but for other comparable economies it is about 19% in those three asset classes. That just gives a sense of how conservatively invested our defined contribution pensions are.”
He believes a private wealth fund could be given a remit to ensure a certain percentage was invested outside of the south-east of England. He added: “The flexibility you would have with a fund like that, is that you could say that we only want 30% to be invested in London and south-east.
"You will find there are lots of asset managers who will create a fund of their own which will enable private people to invest in private equity, but it will be £500m a year or a billion there. My point is that you can do it in little bits and pieces by lots of people, but we really need to send a message in our intent as a country to support a 21st century economy.”
He said the UK Government could set up a £50bn fund alongside a private sector fund and put it into a sovereign wealth fund. The Lord Mayor added: “That should be invested in the same things and could co-invest alongside (private fund) and you could have the same investment board managing the assets. But I am not trying to put pressure on the government to do that and I think it is interesting that the Labour Party is going to set up a wealth fund of £8bn and that might make the Conservatives scratch their heads a bit and think do they want to be a Johnny come lately.”
He said a private wealth fund could back fintech in places like Wales. Mr Lyons said: “I think there was £16bn last year and £25bn this year invested from overseas investors in UK tech companies. There is a lot of investment and these guys (growth firms) could say they are not terribly interested in that and are particularly happy to take money from the US.
"Ultimately that should be their choice, but we should be giving them a choice. People here say I love being in Wales and I don’t want to go to the west coast of the US with my business and family. If you have got a £50bn fund, forgetting about what might happen on a sovereign wealth fund, that creates a very strong statement about our commitment.”
Welsh visit
On his first official visit to Wales in his role he said: "We brought four investors from London here (Cardiff) to actually meet lots of companies. We are trying to send a message to these growth companies that there should be no barriers and from a London perspective we are delighted to see people come to us (from Wales) and getting people down here, which is only an hour and a half by train.
"So we want to get out and when I am travelling abroad I want to talk about the exciting things that are happening around the UK and in Wales. I really want the City to play its part as a resilient, resourceful and responsible place in pushing the national economy. And we cannot have a strong national economy without having a thriving City."
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