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Pensions: the basic solution

By David Turner

Financial Times, April 30, 2003

 As the problem of Britain's pensions rumbles on, ever more desperate (and unjust) solutions to the crisis are proposed. Perhaps the best and fairest answer is the simplest of all: an increase in the basic state pension.

Some of the solutions have generated howls of protest among advocates for older people, and rightly so.

Calls for raising the age at which people can receive the state pension from 65 to 70 seem draconian for a society as wealthy as Britain's. A large number of Britons - possibly the majority - who have worked hard all their lives do not want to continue working until they are 70. Working until 70 would impose physical hardships on many older people that would seem more appropriate to a poorer country.

For example, recent figures from the International Labour Organisation show that in Bolivia more than half of its citizens who are 65 or older are still working. But does a country as rich as Britain really need to consider the same measures as Bolivia?

Two other extreme devices - to make occupational pensions cheaper and hence more attractive for employers by breaking the inflation indexing of occupational pensions and removing survivors' benefits - seem to be recipes for fear and misery. Inflation indexing is a cornerstone of stability, and survivors' benefits prevent large numbers of grieving older widows from being plunged abruptly into poverty.

The favoured solution from the Trades Union Congress - to compel employers to offer occupational pensions, and to compel virtually all employees, except for the lowest-paid, to contribute - has some virtue. Compulsion forces individuals to face the reality of their own personal pensions crisis, and to start making a sizeable contribution to their future spending needs. Many of the arguments against compulsion centre on the principle of personal liberty. Why, the argument runs, should people be forced to save?

If that particular principle is based on the tenet that people should have the freedom to do anything they like which does not harm anyone else, then the argument against compulsory saving fails the test. If one assumes that the government would never allow any pensioner's income to fall below a certain level, people who have saved would be forced, through taxes, to provide not only for themselves but for those who had exercised their freedom not to save. This is the situation which the chancellor Gordon Brown's minimum income guarantee, shortly to be renamed the pensioner credit, puts us in - by imposing an effective rate of tax on savings.

The facts make grim reading. Recent survey evidence from Age Concern suggests that only half of working-age Britons are saving for retirement or paying into a pension. Those who do save are likely not to be putting away enough. Estimates of how much people need to save to enjoy a satisfactory pension vary enormously. They depend, for example, on views of future investment returns and on when the individual begins to save.

But most experts agree that workers need to save significantly more than 10 per cent of their earnings over at least three decades, to avoid a truly debilitating fall in living standards when they retire. Large numbers of money purchase occupational schemes fail this test - even after allowing for employer's and employee's contributions. Personal pension saving performs even worse against this benchmark.

The trouble is that there is something seriously wrong with the way many working-age Britons view both their earning power and their future financial needs. Despite the spectacular real-terms increase in average earnings over the past half-century - about 250 per cent for full-time male manual manufacturing workers since 1950, for example - the average Briton remains convinced that he or she is financially hard-pressed.

It seems sensible not to save for the future when one does not have enough money for today. This view is unlikely to change, as expectations of an adequate standard of living - once restricted to enough money to subsist but now expanded to include overseas holidays, regular meals out and designer clothes - are stretched even further.

Compulsory occupational pensions would force people to show a little more responsibility, but they have one essential flaw: more than 25 per cent of the working-age population does not have an occupation. Coverage would, therefore, be extremely patchy, particularly among women, ethnic minorities, the disabled and those who have less in the way of other non-pension savings to fall back on.

Significantly raising the basic state pension, on the other hand - an aspiration of lobby groups such as Age Concern - would skirt around many of the well- rehearsed problems posed by other solutions. Mr or Ms Thrifty would have less cause for anger than under the present means-tested system, since they would be receiving the same basic pension as everyone else, with no penalty for putting away extra money for a better standard of living. Provision would be universal, leaving no holes in the safety net. d4 The most commonly voiced objection to this solution is its cost. But we are as a nation becoming not poorer, but richer - and at rather a rapid rate. At times this fact is almost erased from public consciousness by rising expectations about standards of living, complaints by opinion-formers about Britain's poor performance relative to other countries, and high-profile government statistics which, in a Sisyphean manner, measure relative rather than absolute poverty.

In recent history, earnings have grown in real terms at an average rate of about 2 per cent a year in the UK. Let us suppose that earnings continue to grow appreciably every decade, and working Britons give up, in extra tax, only half of the net earnings increase to finance the country's collective retirement needs. In only a decade's time the pensions crisis would be on its way to a solution - at the cost simply of a reduced rise in disposable income and living standards for working people, rather than an outright fall. The tax system could be structured so the poorest in society would avoid the compulsory saving associated with the tax increase.

There is easily enough money to go round in Britain to solve the pensions crisis. One solution is for the government to end Britons' yen for spending that money by taking it away from them now and giving it back to them later.


Copyright 2002 Global Action on Aging
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