Speech at GAMF 2022
I am Toshiyasu Iiyama, executive managing director at Nomura Holdings and head of the firm's China Committee. Japan and China are now the world's third and second largest economies by GDP, and are among the world's leaders when it comes to the level of personal financial assets. As such, both countries face the same challenge of putting financial assets to work, promoting long-term asset building and diversifying demand for investments.
Today, I would like to draw on Japan's experiences to discuss the role that foreign financial firms can play in the aging Chinese market. The wealth and asset management businesses in China are very promising. According to the 2021 China Private Wealth Report issued by China Merchants Bank and Bain & Company, China's wealthy population totaled 2.62 million with an average growth rate of 15% over the past two years. At Nomura, we see huge potential in mobilizing the financial asset base of individuals, including the middle class. While flows in the economy may slow going forward, based on Japan's experience, we expect stock in the economy as personal financial assets to continue to grow. On the other hand, we are concerned that if China maintains its current structure of massive inflows of funds into so-called wealth management products or speculative real estate transactions, it will not be able to turn personal financial assets into an engine that creates a virtuous cycle advantageous to the Chinese economy, but instead cause asset bubbles or economic stagnation.
Our concern here is based on Japan's non-performing loan problems in the late nineties and early two thousands. But during that time, Japan also underwent its Big Bang comprehensive financial reforms and established a real estate securitization market. This led to many foreign players entering Japan and some asset managers that joined the market around that time are still active in Japan. Looking back, foreign asset managers made many significant contributions to the development of the asset management industry in Japan. First was the establishment of comprehensive management knowledge including research, administration, reporting and compliance. The tangible and intangible knowledge brought by foreign firms helped develop the mutual fund market and infrastructure.
Another contribution was in the area of product development and marketing. Before the Big Bang, it was unthinkable for banks or brokerages to offer products from companies outside the same group. But the innovative product development by foreign asset managers and their educational and promotional activities for distributors, combined with deregulation, led to swift diversification of product offerings by local retail financial institutions and enhanced customer service. In other words, the entry of world-class foreign asset managers gave rise to healthy competition, boosting the level of people working in the industry and leading to significant benefits for investors. Nomura is proud to have been a leader in developing the mutual fund market in Japan. We boosted our competitiveness and grew as the country's largest mutual fund manager and distributor thanks to the legal and regulatory reforms of the Big Bang and competition and collaboration with foreign players.
Through this experience we believe that to further develop a full asset management industry in China it would be effective to enact comprehensive regulatory reforms of the mutual fund market for enhancing asset management for the middle class and to encourage the entry of foreign players to establish a sound competitive and collaborative environment.
Allow me now to shift focus and touch on Japan's experiences in relation to one of the key topics of the agenda: aging. The working-age population in Japan, people from 15 to 64 years old, peaked in 1995 and the total population peaked in 2008. So we now face the challenges of an aging and declining population. As I understand it, China is now aging at a faster pace than Japan and to alleviate the concerns of the people, enhancing of the social security system, particularly pension system reform, is something that should be started now.
Based on Japan's experience, there are three key issues.
The first point is the separate roles played by public and private pension plans. Ensuring the right combination of both is essential. The best combination, of course, depends on the specific characteristics of each country. That said, the most important thing is to ensure that the roles of public and private pension are made clear. In countries with an ageing society, it is not practical to promise the people large public pension payments. Put simply, the role of public pensions is to guarantee certain income for people in retirement, while anything above and beyond that to have a fulfilling life should be covered by private pensions. In such cases, it is critical that public pension plans cover a broad section of the population to ensure social equality. This is not easy and in Japan we had to gradually increase coverage in phases. Now it covers everyone, even people with no income.
Turning to my second point, there is a diverse range of measures that can be used to expand private pension plans. The key here is to ensure there are sufficient tax measures in place. The two types of private pension plans are defined benefit and defined contribution. The current global trend is to shift away from defined benefit to defined contribution and Japan is also moving in this direction. I am aware that China is reforming its individual pension system and has also introduced defined contribution plans. Tax for private pension plans follows an EET scheme whereby contributions and returns on investment are tax exempt (EE) but withdrawals are taxable (T). It is key that this is implemented on a permanent basis and sufficiently established. For historical reasons, defined contribution withdrawal limits in Japan are low, the tax exemptions on investment returns are temporary and tax on withdrawals is partial. As China looks to further establish private pension plans, an EET tax system would be beneficial.
Lastly, my third point on the importance of international diversification. Public pension reserve funds are effective as a buffer fund and management of these funds is most effective when done through investing in a wide range of assets both domestic and international. Japan's GPIF is the world's largest public pension fund with equivalent of RMB 10.6 trillion of assets under management. Its policy asset mix is allocated 25% each to domestic bonds, domestic equities, foreign bonds and foreign equities, and its actual asset allocation follows a similar distribution. The fund's allocation was not always like this. Before 2013, two-thirds of its investments was in domestic bonds. Diversification was then done gradually.
Recently, as an ultra-long-term investor and a universal owner, GPIF carries out ESG investments and has been driving initiatives in Japan's asset management industry. In 2015, GPIF became a signatory of the Principles for Responsible Investing, clarifying its proactive stance towards ESG investing. This acted as a catalyst for Japanese companies and investors to raise their awareness of such issues. In China, the activities of large-scale asset owners such as the National Social Security Fund will play an integral role in addressing issues like achieving carbon neutrality.
Long-term investing and international diversification is needed for private pension plans and this requires improved financial literacy. Globally, it is becoming recognized that boosting financial literacy can help pave the way for stable social and economic growth. However, won't improve by just talking about it. It requires both knowledge and practice. For example, one idea is to get people used to long-term diversified investing via target date funds to build assets for retirement, while also improving knowledge through financial education, resulting in a dual circulation approach that aims to boost financial literacy. So for China to prepare for the aging of society it is critical to increase product development capabilities in the asset management industry, provide investors with information including financial literacy, and develop asset management and business administration expertise for long-term and internationally diversified asset management.
Once again. Let me say that there is much to learn from the global experience and expertise of foreign financial institutions and by creating a competitive and collaborative environment with domestic players, the Chinese economy and society as a whole can benefit. Through Nomura Orient International Securities, Nomura Group is committed to leveraging our global expertise and experience to contribute to the development of China's capital markets and asset management industry. We look forward to working together with policymakers and market participants.