back

The way forward for pension provision

By: Frank Field 

Financial Times, August 5, 2002

Focus groups are reporting to the government that pensions are the big issue with voters. Many occupational final salary schemes have been closed to new workers; and the recent roller-coaster ride in stock market valuations has shown how precarious individual pension savings can be.

The big welfare success of the past 100 years has been the company pension scheme. A successful pension reform programme should take this model and modernise it to formulate a universal protected pension scheme, as the Pensions Reform Group proposes in our new report*.

The scheme should not aim to provide a pension of two-thirds of a member's salary, as with company schemes. Instead, we should set a realistic target of 25 to 30 per cent of national average earnings, costed by the government actuary, to be linked to increases in earnings once in payment.

Pensions are a claim on future national income. They cannot be guaranteed but all main political parties accept that building pensions savings and investing them are more likely to be effective than relying exclusively on tax-based schemes. A universal protected pension would have to be largely provided from funds accrued from contributions but it should also incorporate the national insurance basic state pension.

Risks are inevitable in any pension scheme that has contributions built up over 40 years or more, with benefits paid for about 20 years. Paul Myners, who reported on pension funding to the government last year, stresses that a universal pension scheme must spread the investment risk as widely as possible - more widely than defined benefit occupational schemes, where the risk is with the employer, and more widely than defined contribution occupational schemes, where the employee faces the risk.

Because governments have a record of reneging on state pension schemes, any new scheme should be kept at arm's length from the government. The granting of independence to the Bank of England shows that it is possible for institutions taking decisions that affect the whole country to fulfil their aims without being leant on by the government. Kate Barker, a monetary policy committee member, says the MPC demonstrates that it is possible for an independent body to further policies, provided it is appropriately accountable and transparent. The task of trustees would not be easy but the MPC has shown that in-dependence from government can be a reality.

Another proper concern is the size to which a universal protected pension fund could grow. The estimate is that at maturity in 70 years' time, it would probably constitute between 5 and 10 per cent of the UK equity market. And while trustees would be responsible for the fund, they could invite private sector fund managers to man age parts of this portfolio. If trustees managed the fund well, the scheme could allow either the pensions in payment to be increased to up to 30 per cent of average earnings, or for contributions to be reduced - or some combination of the two.

Better pensions cannot be provided in this country without increased contributions. Financing the new pension would require a 2 percentage point increase in employee national insurance contributions and aretirement age of 70 for the very youngest workers in today's labour market. That contribution, together with the national insurance rebate, would provide the funds for trustees to invest.

If workers on lower incomes are to be brought within the scheme as full members, an element of redistribution will also be required. Workers should pay their 2 per cent addition to national insurance up to the old ceiling of ý31,000, so those earning higher wages would pay the most. The pension would be paid as a proportion of national average earnings, meaning that the redistribution would come through earnings-related contributions for a flat-rate pension. The quid pro quo is that higher-paid workers would get a decent first-tier pension guaranteed to increase with earnings - something they could not buy in the private market.

We should not dodge the issue of compulsion. However, there is a little-realised but massively expensive compulsion in our present pensions arrangements. Means-tested benefits for poor pensioners account for the equivalent of 5p in the basic rate of income tax, a total of ý13bn next year - a real terms increase of ý4bn a year since 1998. The government accepts that this cost will rise to the equivalent of 14p in the pound or more by the time today's younger workers are nearing retirement. The choice, therefore, is between compulsion to build a pensions fund and compulsory tax bills to finance the failure to guarantee everybody an adequate first-tier pension.

These measures offer the prospect of abolishing pensioner poverty. At present many millions of people pay contributions for 40 or more years yet fail to gain a decent minimum pension and suffer poverty in retirement.

A single, compulsory, universal protected pension scheme would cut through the layers of complexity in which most pension contributors find themselves lost. It would also make the task of private pension providers easier, as they would cease to juggle with making up inadequate first-tier pension provision while at the same time encouraging people to save enough for a comfortable retirement.

Most perniciously, it currently pays perhaps half the working population not to save for retirement and simply to rely on the goodwill of taxpayers to supplement their inadequate income through the benefits system. A universal scheme would lift people above such benefits, meaning that there would not be a disincentive to making additional savings from the prospect of a loss in benefits.

FAIR USE NOTICE: This page contains copyrighted material the use of which has not been specifically authorized by the copyright owner. Global Action on Aging distributes this material without profit to those who have expressed a prior interest in receiving the included information for research and educational purposes. We believe this constitutes a fair use of any such copyrighted material as provided for in 17 U.S.C § 107. If you wish to use copyrighted material from this site for purposes of your own that go beyond fair use, you must obtain permission from the copyright owner.