UK mega pensions aren't a bad idea – if government can resist destroying them
3 June 2014 9:46pm
IN THE Queen’s Speech today, the government is likely to give the go-ahead for large pension schemes along Dutch lines. Such collective defined contribution schemes have many advantages. They allow managers to pursue return targets without giving guarantees. Risks can be shared between generations and costs can be kept down as a result of economies of scale.
But the most obvious reflection on this policy is that it highlights one of the most catastrophic regulatory failures of the modern age. And that failure should stand as a warning to anyone expecting too much from Britain copying the Dutch model.
Ever since the late 1980s, governments have been trying to perfect defined benefit (final salary) pension schemes. As is often the case, the pursuit of the perfect was the enemy of the good. Governments forced pension funds to provide guarantees to members, they imposed funding standards on pension funds, and they raised the costs and risks to sponsoring employers. The result was that businesses ceased to be able to bear the risk of running final salary schemes and, by and large, they have all closed down. There are now fewer than 1m members of open private sector, defined benefit schemes. In the public sector, of course, taxpayers pay the costs and bear the risks – and the public sector is largely exempt from the regulation that applies to private sector schemes.
Before the late 1980s, defined benefit pension funds were risk-sharing arrangements (like the Dutch model). They were trust funds and trustees had a duty to act in the best financial interests of members. If the costs of the scheme grew too high, the trustees were able to massage down the benefits in various ways, normally by not linking benefits to inflation. Thus, there was an aspiration (the final salary, defined benefit promise) and a safety valve if costs were too great or investment returns too low. That basic framework evolved within the market from 1921 and it was destroyed by government in less than 20 years.
It is therefore a huge irony that the government now effectively seeks to replace what it has destroyed. Nevertheless, its proposed arrangements certainly have a place in the economy. There will be a potential for schemes that are not attached to a particular employer, and this may well suit the modern labour market better than traditional schemes. It is possible that investment costs will be lower too – though margins have been squeezed in the personal pension market.
There are at least three big obstacles in the way of their success, however. Will the government be able to keep its hands off the schemes? What will happen if investment returns are low for a generation or some schemes are mismanaged? Will this just lead to these schemes being regulated out of business, like defined benefit schemes were? It is also difficult to recreate the institutional and economic circumstances that created the original company-sponsored pension schemes: what government destroys is sometimes gone for ever. Finally, the vehicle may offer more flexibility, but it does not solve the fundamental problem – saving at low interest rates for a long retirement is cripplingly expensive.
Philip Booth is editorial and programme director at the Institute of Economic Affairs, a fellow of the Institute of Actuaries, and professor of insurance and risk management at Cass Business School.
In other news
Talks between Network Rail and RMT bosses are continuing into the evening as the two sides try to negotiate a [Read more]
Sepp Blatter's reign as Fifa president will be four times as long as the average tenure of bosses at FTSE 100 [Read more]
Emirates Airline has been confirmed as the new sponsor of the FA Cup on the day of the cup final which will see [Read more]
Newly re-elected Fifa president Sepp Blatter has given a press conference in Zurich where he answered the many [Read more]
Sir Tim Berners-Lee, the inventor of the World Wide Web, has warned of encroaching government powers after plans [Read more]
Sepp Blatter will be Fifa president for a further four years after comfortably beating Prince Ali Bin Al-Hussein [Read more]
Ukip's Lord Pearson of Rannoch has asked the government to back a draw Mohammed competition. [Read more]
Network Rail and RMT bosses are once again entering talks to see if the latest set of strikes, announced yesterday, [Read more]
IMF chief Christine Lagarde said this morning that a comprehensive deal with Greece is "very unlikely... in the next few days". [Read more]
Good news multiple-gun salute fans. Next week there will be not one but two such events, marking the 62nd year [Read more]
An EasyJet flight from Luton to Tel Aviv has been forced to turn back after multiple cabin crew members reported [Read more]
A vehicle has struck a bridge it was passing under in Tulse Hill, south London, causing train cancellations and [Read more]
Shares in troubled insurance claims outsourcer Quindell fell in late morning trading after the company announced [Read more]
After a number of top Fifa officials were arrested on accusations of bribery and racketeering this week, the already [Read more]
The mother of the children who died at a Thomas Cook-approved hotel in Corfu has slammed Harriet Green's decision [Read more]
The meteoric rise in London office rents is unlikely to slow down for at least another year, the chief executive [Read more]
Andy Burnham will today admit that Labour got it wrong on business and the economy, and that the party cannot [Read more]
The German Chambers of Commerce and Industry has said it is “astonished” that the UK is considering leaving [Read more]
When it comes to creating new technologies, London is a long way behind other cities in the UK, new research has [Read more]
Four FinTech startups have won $100,000 (£65,400) backing from Citi after a search for new technology and innovation [Read more]
Property types may have been worried about the looming spectre of a mansion tax during the run-up to the General [Read more]
Corruption allegations, arrests of top officials, global outrage - in most organisations such calamities would [Read more]
Are the UK's new crop of MPs actually any good at social media? [Read more]
Donmar Warehouse | ★★★★★ [Read more]