Critics cite infrastructure and budget deficits as reasons to question the Government's strategy on pension provision, writes Jane O'Sullivan

When the Minister for Finance, Mr McCreevy, first announced plans to set up the National Pension Reserve Fund (NPRF) three years ago, it was welcomed as an innovative and visionary move.

Making timely provision for what many see as the demographic timebomb waiting to go off in the pensions area was regarded as sensible when times were good and the Exchequer was running a healthy surplus.

But the downturn in the Government's finances over the past two years has caused popular sentiment toward the fund to sour and has turned it into a source of political controversy.

Attitudes toward the fund haven't been helped by the fact that its establishment in April 2001 coincided with one of the worst bear markets in recent stock market memory.

Since its inception, the fund has been loss-making, losing 16 per cent of its value last year alone, although it has since managed to claw back some losses and was down just €332 million, or 3.8 per cent, as of last week.

But with resources increasingly scarce, it is hardly surprising that the losses run up to date have not gone down well in many quarters.

Following the release of the NPRF's annual report on Wednesday, detailing its performance in 2002, the Irish National Teachers' Organisation was quick to point out that the €737 million lost by the fund by the end of last year could have been used to repair, rebuild and refurbish half the State's sub-standard school buildings.

Critics of the fund highlight two main areas of concern.

On one hand, the issue of funding the NPRF has been caught up with the serious infrastructure deficit in the State.

Rather than investing scarce funds in volatile stock markets, critics believe the Government should be funding much-needed infrastructure that will still be delivering a return to the taxpayer in the decades to come.

The NPRF dismisses criticism that investment in the fund is crowding out investment in infrastructure, arguing that, because the Government is in no danger of breaching the 3 per cent Maastricht limit on borrowing this year, the two are not mutually exclusive. And even if the Maastricht limit were to become an issue in the years to come, those running the fund point out that borrowing to invest in the fund does not count for EU purposes where funding infrastructural investment does.

But in its medium-term review, published last week, the Economic and Social Research Institute suggested the Government should concentrate on its infrastructural programme, which should be complete by 2015.

It could then redirect the funds no longer needed for infrastructure spending into the pension so that "the value of the fund by 2030 would probably be much greater than will be the value of the current pension fund derived from saving 1 per cent of GNP a year over the full 30 years".

The second main worry about the fund relates to the fact that the Government is now running a budget deficit.

In effect, it could be said to be borrowing to continue making its annual contribution of 1 per cent of GNP to the fund. In recent days, the Labour Party has accused Mr McCreevy of borrowing "to finance continued gambling on international stock markets".

But the concern that the NPRF is being funded by money that costs more to borrow than the return being generated on it at present is not confined to the political scene.

"It is hard to argue that you are saving for retirement when you are borrowing the money," says Mr Oliver Mangan, economist at AIB Group Treasury.

"If we continuously borrow to fund the pension fund, we are kidding ourselves and we will end up with a big lump of national debt to pay off."

He believes the NPRF should be funded only out of existing resources with more than 1 per cent paid in during good times and contributions cut back when times are tough.

"I'm not sure that a hard and fast rule of putting 1 per cent of GNP in every year is a good thing," he says.

This view is echoed by economist Dr Patrick Honohan, who believes it was a mistake not to have included a contingency plan, at the time the NPRF was set up, for the suspension of contributions.

"The point of a system like this is to have a kind of discipline to save on a regular basis, putting aside a certain amount of money in bad years as well as good years," he says.

While he believes the logic of the system should stand above a particular year's conditions, he also says the fund was set up too rigidly and should have set out the circumstances in which the rules could be broken.

Such issues aside, however, most observers believe the fund remains a worthwhile exercise, although some small niggles remain.

With hindsight, some believe it might have been better to have built up its equity holding more slowly given the volatility in stock markets in recent years.

At present, the fund is 65.5 per cent invested in equities with 16.3 per cent in government bonds and the remaining 18.2 per cent in cash.

That is a substantial change from the end of last year, when just under 57 per cent was in shares and more than a quarter of the accumulated money was held in cash.

Long-term, the fund aims to be 80 per cent invested in equities and 20 per cent in bonds.

The fact that the investment mandate does not include any ethical guidelines and that the portfolio includes tobacco firms, arms manufacturers and oil companies is generally accepted as the pragmatic option.

"Going down the ethical route can become very complicated. The approach they have taken is the only realistic one," one analyst noted.

But the NPRF's stated intention of investing in public/private partnerships in the Republic, provided they deliver a commercial rate of return, has caused some unease among those who believe it should concentrate on assets without political connotations, and will be closely watched.

Others would like to see the fund detail its figures more regularly than twice a year, like most of the managed pension funds on the market.

But most commentators agree that the jury is still out. The real test of the fund will be its performance over time and whether it delivers on its promise of helping to meet social welfare and public service pension costs from 2025.