Compulsion moves up the pensions agenda

 Teresa Hunter, The Money Telegraph

October 8, 2003

When he was pensions secretary, Alistair Darling, one of the most astute political operators in the Labour cabinet, was convinced that forcing people to save for their retirement could cost his party the next election.

In his view, while people claimed they wanted to save, the reality was that they did not. They would much rather spend their cash on holidays, homes and cars. And any government that prevented them from doing so by forcing them to save would find itself out of office.

Times appear to have changed. The word "compulsion" was on everyone's lips at last week's Labour party conference in Bournemouth.

In his speech, Gordon Brown, the chancellor, said he "welcomed the debate on compulsion". And the economic secretary to the Treasury, Ruth Kelly, openly acknowledged at a fringe meeting that if the strategy of free choice could not be made to work, the Independent Pensions Commission, set up earlier this year to investigate pensions issues, had the power to impose compulsory pension contributions.

In a frank departure from normal ministerial platitudes, Kelly accepted that the regime was not working, largely because of a lack of trust in the financial industry, but partly due to general confusion.

"It is almost impossible for anyone to make rational choices right now," she told the meeting. "Consumers don't know what they are getting by way of pension entitlement either from their employers or from the state. These are huge challenges."

She revealed that the Treasury was working with the Financial Services Authority to develop a "financial health check", which could be made available to every employee at their workplace. There were also proposals to provide every employee with an annual statement outlining precisely what he or she could expect to receive at retirement from private and state pensions.

Kelly concluded: "We want a strategy of informed choice. But, if that doesn't work, we have the Pensions Commission, and compulsion is always an option for them."

This buck-passing message was echoed in a speech to the main conference by Andrew Smith, the work and pensions secretary. He said compulsion had to be left to the new independent commission, adding: "We would not have set up the commission if we did not think there was a case for moving beyond the current voluntarist system."

So compulsion is back on the table. But how seriously should we take it? Are ministers really testing the waters of public opinion, or are they merely sabre-rattling, using empty threats to encourage us to save more of our own volition?

Compulsion has some powerful allies, including charities for the elderly, the Consumers' Association and many of the big trades unions, which last week called for compulsory employer contributions.

Following pressure from the GMB, Labour party officials were reluctantly forced to include the following in the motion on pensions debated on Thursday: "This conference resolves to widen the pensions debate and calls on employers - as well as individuals and the state - to play their part in eliminating poverty in retirement via compulsory employer contributions to pension schemes."

The motion was passed overwhelmingly.

Politicians from all parties remain skeptical, however, as does the pensions industry, which cites several drawbacks.

"Compulsion should be the last resort after all other options have been exhausted," says Stewart Ritchie of Aegon, who maintains that one of the biggest problems with compulsion is that it might not actually increase savings.

Since compulsion was introduced in Australia in 1992, overall savings have actually fallen, he says. Saving as a proportion of income per Australian household has dropped from 15 per cent in the 1970s to between 1 and 2 per cent.

But Donald Duval of Aon, who was the government actuary for Australia between 1991 and 1996, takes issue with what he describes as an over-simplified reading of the data.

"All kinds of things drive changes to the savings ratio," he says. "It may well have dropped dramatically anyway. We can't measure the impact of the introduction of compulsory pension contributions because we don't know where the saving ratio would have been otherwise."

Duval is adamant that the Australian experiment has been a success, although he is acutely aware that it could never be introduced in the same way in the UK.

"A significant slice of the population, perhaps a third, had no savings or assets other than a trivial amount of cash in the bank and a mortgage," he says. "These people now have sizeable pension savings. There is no question that, on an individual basis, they're considerably better off, whatever savings ratios may show in aggregate."

Compulsion was pushed through in Australia by trade union power that no longer exists in the UK. That is to say, the unions controlled collective wage bargaining. Compulsion became affordable after employees agreed to forego a three per cent wage increase in return for compulsory contributions by employers of 3 per cent of their salaries.

This proportion has risen over the years to nine per cent. Even today, employees make no contributions per se, although they are effectively doing so through wage sacrifice.

Another feature of the Australian model is that retirees can take the whole of their pension fund in cash. There is some evidence, however, that the prospect of such a big windfall on the horizon has simply encouraged greater debt, as those approaching their final pay packet borrow against the forthcoming nest egg.

David Willetts, the shadow pensions secretary, says: "If we make people save more towards their pensions, we can't be certain they won't borrow to do so. If this happens, people will be no better off."

There are also concerns that a minimum employer contribution would have to be set at a fairly low level to avoid crippling industry. This could even encourage the more generous companies to cut back on what they are already paying into employees' retirement funds.

Another concern is that tax relief on contributions may disappear if pension savings becomes compulsory. After all, why bother to incentivise people to save when they are compelled to do so anyway?

Which brings us back to the political risk, about which Darling was almost certainly right. Readers of the Sun rather than those living in Middle England could become the greatest threat to the Government's election chances. Broadly speaking, the better-off half of the population is paying into a pension already, and the bottom 10 per cent would be exempt.

This leaves about four in 10 workers having to give up perhaps 5 in every 100 of earnings from their wage packets.

Ritchie argues: "The battleground will centre on those earning between 12,000 and 30,000, where significant numbers will feel that, while they're paying off student loans, trying to buy a home and raising children, they simply can't afford to save for their retirement as well. Their biggest priority is likely to be getting out of debt."

Significantly, Adair Turner, who chairs the pensions commission, has expressed doubts about whether the pensions gap could ever be closed simply by increasing savings by whatever means.

Turner told a recent gathering at the Institute of Actuaries: "My tentative conclusion is that [the forecast] increase in the percentage of wealth devoted to pensioners will not occur . . . [with] unchanged retirement ages. So that what will have to change above all is the average retirement age."

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