Opinion: The most positive change for private sector pensions in half a century

By Janice Turner | Mon 9th June 2014 - 11:10 am

The announcement in the Queen’s Speech of a new ‘Collective Defined Contribution’ pension is an historic achievement on the part of Lib Dem Pensions Minister Steve Webb, which shows that pensions are only safe in Liberal hands. It will bring about better quality pensions for millions in the private sector workforce. It’s taken him four years to arrive at this historic moment which starts to rectify the damage the Tories and Labour wrought on the retirement hopes of ordinary private sector workers.

Winning this has never been more important. As stated in the policy motion on pensions that I proposed, with Steve’s and Social Liberal Forum’s support, at the 2012 autumn conference, there is a major crisis in private sector pensions. Most Defined Benefit (final salary) schemes have closed or are closing, thanks in part to Labour’s changes to scheme valuation methods using right-wing free market philosophies and Gordon Brown’s multi-billion tax grab. This has left millions of people with no choice other than a Defined Contribution pension which includes the personal pensions for which Margaret Thatcher opened the floodgates in the eighties, to the City’s delight.

Ordinary Defined Contribution schemes have major drawbacks. While Defined Benefit schemes give you a guarantee of how much you’ll get in your pension, Defined Contribution schemes depend entirely on your investment return and the level of charges you have to pay. Your pension builds by investing yours and your employer’s contributions with the hope that the investment return will be enough to provide you with a decent retirement. With Defined Benefit schemes any risk of a shortfall is borne by the employer. Defined Contribution schemes dump all the risk on the individual saver.

What people want from their pension is a reasonable idea of what level of pension they may eventually get; one which gives them the best value for their contributions over the years; and a simple pension they can trust. Collective Defined Contribution can deliver on these.

They are a kind of third way between Defined Benefit and Defined Contribution schemes. First, instead of you having your own personal pot and the responsibility to decide how it is invested, your pension is pooled as in Defined Benefit schemes and the scheme makes the investment decisions. Because all the members’ money is invested together like DB instead of thousands of individual pots, this brings savings from economies of scale, access to a wider range of asset classes and lower administration fees. It also sounds the death knell for annuity providers as the pension gets paid out directly from the fund – this in itself could save perhaps 25% as a result of cutting out the insurance companies. More pensions industry people are starting to call Collective Defined Contribution ‘target pensions’ as they will establish a target benefit – eg 1% of your earnings each year you’re in membership. It’s not guaranteed, but it will give savers a much clearer idea of how much they are likely to get. Studies have been carried out to establish the difference in value between the UK’s DC schemes and the Dutch Collective Defined Contribution pensions on which Steve’s proposal is based. The insurance company Aon estimates that for the same money the Collective Defined Contribution system would get you a pension 30% bigger than under our current UK system. Another study suggested it could be as much as 50% higher.

The opposition from some parts of the financial services industry show that Target pensions will keep more money in your pension with less leaching out in fees and charges, and that’s how it should be.

There are many challenges ahead in establishing what for the UK is a radical new system. But I congratulate Steve Webb for his Social Liberal vision and his determination to bring in major changes that will transform the retirement of millions of people. This could be the most positive change in pensions for private sector workers in half a century. That’s the scale of our Liberal Democrat minister’s achievement.

* Janice Turner is Vice Chair of the Liberal Democrat Campaign for Racial Equality

5 Comments

Charles Rothwell 9th Jun '14 - 12:19pm

Thanks very much for the clarification, Janice. After the despondency of the past few weeks, this is exactly the kind of GOOD news story which is needed. Main thing now is to get the message out to as many people as can possibly be reached that this is an LD achievement and not allow the Tories to grab what should be fully afforded to the credit of our party (e.g. the Tory local election leaflet I received stated how “they” had raised the income tax threshold to £10, 000 while Gove recently tried to grab credit for the Pupil Premium! In the same way as Brussels set up a press office to counter all the ‘straight bananas’ rubbish the UK red tops were spewing out, LD HQ needs to be very careful about spotting and rebutting Tory porkie pies as well!)
Simon McGrath 9th Jun '14 - 1:59pm

“Most Defined Benefit (final salary) schemes have closed or are closing, thanks in part to Labour’s changes to scheme valuation methods using right-wing free market philosophies”
Goodness knows Labour can be blamed for a lot but this is nonsense. The problem is that the accounting treatment of pension schemes was changed – nothing to do with the Government.
Eddie Sammon 10th Jun '14 - 3:50am

We’ve got a major problem with stockmarket and pension nimbyism where people think rising prices is always good news. We need to prick the bubble and then control the narrative.
Toby Keynes 19th Jun '14 - 10:48am

I have very major reservations about this proposal.

I’ve lived through the with-profits endowment policies debacle, and I invested in two policies (with London Life and Standard Life) in order to pay off my mortgage.

By the 1980s, these were the standard method of saving to pay off interest-only mortgages, and were also very popular for building up pension pots.

However, they turned into a disaster for the great majority of savers who were investing in them from the 1980s onward, and the seed of disaster was precisely that they were collective funds that used “smoothing” to ensure that savers whose policies matured in good years effectively subsidised savers whose policies matured in bad years.

The inevitable outcome was that, in the really good times, the funds paid out most of the returns and the policies boomed in popularity, but when the bad times came – and kept on coming – the reserves rapidly ran down and the funds ran into major problems that resulted in payouts being cut to the bone.

At the lowest point in the cycle, the regulators of course stepped in to demand that all fund with low reserves invest with extreme caution, which meant that, at the lowest point in the stock market cycle, when funds had lost huge amounts, they were stuck in low-risk, low-return investments so that they would never be able to recover from these lows.

It was the classic “buy high, sell low” scenario, enforced by the regulators.

It is also the classic problem with funds that pool risks across different generations of investors: when times are bad, and their reserves are low, they are forced to be over-cautious for decades, under-paying those investors whose policies have matured (or who are now collecting their pensions) and trapping the remaining investors at the worst point in the election cycle.

Needless to say, my own policies never came anywhere close to paying off my mortgage: very few did. But I count myself very lucky: at least I never invested with-profits pension policy.

I’m not saying that the Collective Defined Contribution Pension has the same fundamental structural flaws as With-Profits Endowment Policies.

Rather, I’m asking: how is it different? What are the structural differences that will prevent them from going bad like their predecessors.
Toby Keynes 19th Jun '14 - 10:49am

(oops: for “election” cycle, read “investment cycle”).