Britain’s pensions are in a right mess. Public sector workers may not be doing too badly, but the rest of us are going to suffer. So what is the Government doing about it?
Why all the talk of two nations?
Because that is the way that Britain is heading. The country is rapidly diverging into two groups. Public sector workers, who get to retire at 60 on generous final-salary pension schemes paid for by taxpayers, and everybody else, who must increasingly rely on less generous defined-contribution schemes and cope with an official retirement age of 65. As things stand, public sector workers account for 18% of the jobs in the UK economy, but 36% of the pensions.
How much is all this costing us?
Official figures put the value of the public sector’s unfunded pension liabilities at nearly £500bn. That’s more than the entire national debt. Independent experts say the bill is much higher – closer to £700m. Worse, the bill is rising fast, thanks to the Government’s public sector hiring splurge that has seen some 400,000 new public sector jobs created since 1997. Two year’s ago, unfunded public sector pension liabilities amounted to only £340m. At this rate, the public sector pension bill is forecast to rise from 1.5% to 2.3% of GDP in 30 years.
Does the public sector deserve its higher pensions?
The unions would like us to think so. They argue that public sector workers tend to get paid less than the private sector. But if this was ever true, it’s not now. Not only is average pay in the public sector now higher than average pay in the wider economy, but public sector jobs are also far more secure. What’s more, they tend to get longer holidays, take far more time off sick and are more likely to retire early. Public sector workers’ sick days alone – they take an average 50% more than private sector workers – cost the taxpayer some £4bn a year. About 40,000 of them retire early on health grounds. Overall, two-thirds of members of some public sector schemes retire early, according to the Pension Policy Institute.
What is the Government doing about it?
Not much. Less than a year ago, the Government said the public sector pension bill was “unsustainable”. Earlier this month, trade and industry secretary Alan Johnson said that the case for raising the public sector retirement age to 65 for all workers from 2008 was “irrefutable”. But faced with the prospect of an all-out public sector strike, the Government has caved in to the unions, agreeing to introduce the higher retirement age only for new workers starting next year. The unions say they will find other ways to achieve the Government’s targeted savings of £13bn over 50 years. But they’ve not said how. Besides, £13bn of savings hardly begins to address the problem.
How do pensions work in the private sector?
Few companies still run final salary pension schemes for new employees these days. Over the last few years, most schemes have closed, thanks to a combination of falling share prices, people living longer and, above all, the Government’s decision to slap a £5bn-a-year tax on pension funds in 1997, when it abolished the dividend tax credit. Most companies these days offer new workers at best a defined contribution scheme, where each worker accumulates their own pension pot. These will rarely produce as much retirement income as a defined benefit scheme.
Is anything being done to protect final salary schemes?
Yes. The Government set up the Pensions Regulator with the worthy aim of ensuring that companies did not renege on their promises, by forcing them to keep their pension funds adequately funded. It has been given extraordinarily wide-ranging powers, which it’s not afraid to use to demand companies plug their deficits. The problem is that these deficits are extremely tricky to calculate, since they depend upon highly subjective assumptions of investment returns, inflation and life expectancy. If the regulator takes too cautious an approach, companies could end up having to inject such huge sums to plug their deficits that they give up on final salary schemes. That risk is even greater following the creation of the Payment Protection Fund.
What is the future of private sector provision?
Faced with pressure from the Pensions Regulator and Pensions Protection Fund, many more final salary schemes are likely to close. Of those that remain, many are now asking their members to accept lower benefits. But most private sector workers will count themselves lucky if they are still offered defined-contribution schemes. Many smaller employers do not offer any pension. Large numbers of people don’t have any retirement saving plan. The Pension Commission is due to report its conclusions on how to boost private pension saving at the end of November. But the best advice it could offer most private sector workers would be to get a job in the public sector.
What is the Payment Protection fund?
The Payment Protection Fund is a scheme to ensure the Government does not have to pick up the tab if a company goes bust leaving a big deficit in its pension scheme. The idea is that all final salary pension schemes should contribute to the fund, regardless of whether they are ever likely to need to draw upon it. This move is deeply unpopular, since it loads costs on to healthy, fully-funded schemes, penalising them arbitrarily for the recklessness of other companies that have been less prudent. The Government says that contributions will be weighted according to risk, so that the weakest funds pay more, but this is even more absurd, since these are the funds that can least afford to pay.