FT943-12064 _AN-EG1ANAC6FT 940727 FT 27 JUL 94 / Grey on top, thinning below: Reform of the French pensions system could have far-reaching effects on industry and the economy By JOHN RIDDING Mr Philippe Bechet says he could always do with a bit more money, but he does not grumble about his pension. Like most of France's senior citizens, who are entitled to a full pension after 37 1/2 years of contributions, the former sales manager receives more than half of his previous salary from the state pensions system. His children, however, and the rest of their generation cannot regard retirement with such calm. Demographic trends, which will increase the proportion of over-60s in the population from about 20 per cent today to about 27 per cent in 2020 and a third in 2050, are putting state pensions under unbearable strain. Last year, the 'pay as you go' system, in which pensions are paid from contributions from the current workforce, incurred a deficit of some FFr40bn (Pounds 4.8bn). The realisation of a gathering crisis is pushing France towards a far-reaching reform of its pensions system, with implications which extend far beyond the purses of the over-60s. The changes under consideration could establish powerful private pension funds, provide a significant stimulus to the Paris stock market and, in the long run, reshape the structure of French capitalism. Some important steps are already under way. By early next month, a law is due to take effect which will provide tax incentives for artisans and independent workers who invest in private pension schemes. The law, called the Madelin Law after its architect, Mr Alain Madelin, minister for enterprises and economic development, will affect an estimated 1.7m workers. One of its aims is to encourage the expansion of private pension schemes so as to provide a complementary retirement income to the state system. Mrs Simone Veil, minister for social affairs, has also moved to ease the burden on the state pensions system. Last year she reformed existing legislation to extend from 37 1/2 years to 40 years the period which people need to work to qualify for a full pension. She also announced that the full pension would be calculated, from this year, on the basis of a person's 25 best-paid years, rather than an average of the 10 best-paid years, which will result in lower benefits. These changes, combined with the allocation of revenues from increased taxes on tobacco and higher social security contributions, will reduce the pensions pay-as-you-go deficit this year. But they are not enough to remedy France's underlying structural pensions problems. As a result, the government has faced increased pressure for the creation of a broader system of capitalised private pensions, as exist in most industrialised economies, in which employees invest in pension funds to finance their retirement. The creation of such pension funds is 'urgent and indispensable', says Mr Ernest-Antoine Seilliere, vice-president of the Patronat, the French employers' association. 'Reforms should be adopted as quickly as possible,' he says. In principle, the government agrees. In January, Mr Edmond Alphandery, the economy minister, said he 'greatly hoped' to introduce a bill on pension reform to the National Assembly during the spring. Since then, however, the timetable has slipped. Mr Alphandery is now aiming to introduce a bill during the autumn parliamentary session. The delay is the result of two factors. Reform of the state pensions system is politically sensitive and has provoked opposition from some trade union groups, which participate in the management of the present system. They perceive pension reform as an attack on their influence and claim that it will act against the interests of the lowest-paid, since it is the wealthy who will be more able to contribute to private pensions systems. 'Private pensions are theft,' says Mr Marc Blondel, general secretary of Force Ouvriere, the union organisation. At the same time, the government is anxious not to nip France's emerging economic recovery in the bud. 'A reform of the pensions system would encourage more long-term savings and could dampen consumption,' says Mr Jean-Francois Mercier, economist at Salomon Brothers, the securities house. Employees would effectively be paying into an additional, private pension scheme, on top of the existing two-tier state system and pay-as-you-go system. Despite official foot-dragging, however, most observers believe the creation of capitalised private pensions is now a question of when, rather than if. 'I am convinced that within one year or 18 months we will have private pension funds,' says Mr Jacques Friedmann, chairman of Union des Assurances de Paris (UAP), France's largest insurance group, and a confidante of Mr Edouard Balladur, the prime minister. He describes the Madelin Law as a significant step to this end. Mr Friedmann is not alone. Politicians, business groups and industry associations, aware that reform is on the way, have been busily preparing their own plans for pensions systems in an attempt to sway the bureaucrats at the economics ministry who are working on Mr Alphandery's proposals. Among the most influential suggestions are those from Mr Jacques Barrot, chairman of the National Assembly's finance committee, and from the Patronat. Mr Barrot calls for the creation of capitalised pension funds, which would complement rather than compete against the existing state system, and which would provide tax incentives for companies and employees to invest in pension funds. These funds would be set up by individual companies themselves, banks, insurance groups and other financial institutions. Mr Barrot recommends that at least half of pensions contributions should be invested in equities, and that a proportion of employee contributions should be invested in employees' own companies. The funds would, however, be managed outside the company. This, he believes, would create a balance between the UK pensions system, in which pension funds are managed independently of companies, and the German system, where pension contributions are incorporated in company balance sheets. As in Germany, this might require an insurance scheme to protect pensioners against corporate bankruptcies. The Patronat, by contrast, argues that companies themselves should decide whether pension funds should be managed internally or externally, and that they should be allowed to manage all of the funds themselves and add them to their balance sheets. The employers' organisation also wants employees to have the choice of taking their pensions in a lump sum or through annuities. Mr Barrot is opposed to payment in a lump sum. The debate, which has also drawn proposals from the Association of French Banks and the French Association of Private Enterprises, centres on these questions of internal versus external management, rules governing the division of investment between stocks and bonds, and the form of payment. For some involved in the debate, Britain's experience of the Maxwell scandal, in which Mr Robert Maxwell, the late publisher, plundered the company's pension scheme, has raised concerns about internal management of pension funds. While French companies favour the use of pension funds to bolster their balance sheets, others question the extent to which companies should reinvest the pension contributions from employers. 'Employees already have their jobs tied up with the company. It may not be desirable for them to have their pensions tied up there too,' says Mr Jan Twardowski, president of Frank Russell Securities of the US. The method of payment of pensions has also drawn a sharp divide between France's banks, which favour the availability of a lump sum pay-out, and insurance companies, which support annuities. 'Everyone is pushing the system which favours their own expertise,' says Mr Alain Leclair, deputy president of asset management at Banque Paribas, the French investment bank. He sees it as an unnecessary battle, which has hindered the process of reform. The battle, however, highlights the importance of the stakes involved. 'It will be a huge market in the future for us,' says Mr Friedmann of UAP. 'Just for the Madelin Law there will be perhaps FFr10bn to FFr15bn in premiums; for a broader private pensions system the market will be hundreds of billions of francs.' The competition to manage these funds will be tough, with insurance companies, mutual savings groups and banks all vying for a slice of the new business. 'The creation of a capitalised system of pension funds will not happen overnight,' says one insurance industry executive. 'But most of the potential competitors are already developing products to cash in on the market.' One of the most important effects will be the creation of powerful institutional investors, a con-sideration which looms large in the government's thinking. 'The government sees the opportunity to kill two birds with one stone,' says Mr Leclair at Paribas. In addition to easing pressure on the state pensions system, the creation of pension funds will strengthen the country's financial markets, he says. For the French government, this is an important incentive. The Paris bourse has grown steadily in recent years - but, with a capitalisation of FFr2,600bn at the end of June, it remains smaller than some international rivals such as London, which had a market capitalisation of Pounds 757bn for domestic equities at the same date. The creation of powerful institutional investors, such as pension funds, would help the government develop the role of Paris as a financial centre. 'If you take a long-term view, then the best returns on investment are in equities,' says one economist at a French merchant bank, pointing to statistics which show an average rate of return for an investment in French equities of more than double the return for an investment in bonds over the past 10 years. 'So the creation of pension funds should shift funds to the bourse and give it a strong institutional base.' One important advantage of this would be to support the French government's ambitious privatisation programme. Launched in autumn last year, with the sale of Banque Nationale de Paris, the programme includes the sale of 21 public sector groups, expected to raise more than FFr250bn. As Mr Alphandery puts it: 'As long as important privatisations are in the pipeline, our country must have funds which have the large part of their holdings in shares.' But the implications for the corporate sector spread far beyond public sector companies slated for sale. Pension funds could also help remedy what Mr Elie Cohen, a professor at Paris university, refers to as 'capitalism without capital'. Because of the lack of big institutional investors and the stable long-term shareholders they represent, French industry has been forced to seek alternatives. One such has been a relatively high reliance on bank loans and direct equity investment by banks. Another has been the creation of complex systems of cross-shareholdings, in which companies form so-called noyaux durs - groups of core long-term shareholders. The recent privatisations illustrate the trend. For example, Elf Aquitaine, the oil group, and Banque Nationale de Paris, one of France's largest banks, took stakes in each other as they left the public sector. Both recourses, however, have their drawbacks. The experience of Credit Lyonnais has also shown the limitations of the bank-industry relationship. The state-owned bank, which lost FFr6.9bn in 1993, has outlined a plan to dispose of FFr20bn of assets over the next two years as part of its restructuring efforts. Many of the assets to be sold are equity stakes in French companies, heralding a reversal of the industrial banking strategy of Mr Jean-Yves Haberer, the former chairman. The pattern of cross-shareholdings is also open to criticism. 'The system can reduce the rigour of shareholder discipline,' says one industry observer in Paris. 'There is a risk of cosy corporate relationships based on self-protection rather than the maximising of returns. There is also the question of whether it is the best use of corporate funds to have them tied up in shares in another industrial group, rather than investing them in the company's own core businesses.' Such considerations are far from the thoughts of the retired sales manager, Mr Bechet. But the changes unleashed by the need to provide for his offspring could also resolve a long-standing weakness in the financing of French industry and transform the nature of the economy from which they retire. Countries:- FRZ France, EC. Industries:- P9311 Finance, Taxation, and Monetary Policy. P9441 Administration of Social and Manpower Programs. P9651 Regulation of Miscellaneous Commercial Sectors. P6371 Pension, Health, and Welfare Funds. Types:- CMMT Comment & Analysis. ECON Economic Indicators. The Financial Times London Page 17