How pensions got throttled
The need for a savings culture.
In mid-2011, Robert Chote, the chairman of the Office for Budget Responsibility (OBR), declared the UK’s economic outlook to be “unsustainable”. He was referring to the UK’s public sector debt, expected to rise indefinitely in the longer term. The primary cause is our ageing population, driving sharp increases in the costs of health care, state pensions and long-term care, combined with a contracting tax base relative to total population size.
In addition, Britain is under a competitive assault from globalisation, particularly from countries with younger, more dynamic, populations. Furthermore, some have little concern for the niceties of a true democracy (no need for planning permission for a new dam or railway in China); this gives them a competitive edge. Without radical policy changes, we can expect our deteriorating public finances to lead the UK into a vicious circle of slower growth and higher interest rates.
This grim outlook could be accompanied by inter-generational strife. Today’s Generation Y (broadly, those in their twenties and thirties) could be the first generation to experience a lower quality of life than that enjoyed by their parents. Over the last five years, the UK’s standard of living has declined by 4.8 per cent and, given the outlook for national debt, there is the potential for considerable further decline.
Only now are politicians beginning to contemplate the pressures facing future governments, and how to avert what the data suggests is heading our way. They are, however, seriously compromised by facing a 50 year problem alongside a five year electoral cycle. The blue corner of the Coalition has, however, proffered a suggestion to head off the crisis-in-waiting, encompassed in its prevailing political ethos of “personal responsibility”. This is thinly veiled code for “you’re on your own, folks”, essentially an attempt to catalyse a cultural shift away from being a nation of borrowers to one of savers, particularly (given our ageing population) retirement saving.
This is important to individuals.… and critical to the nation. Savings fuel investment, which drives increased productivity and economic growth; without that, our quality of life will certainly deteriorate. Unfortunately, this means engaging with an under-performing financial services industry which is widely, and justifiably, distrusted. Indeed, some of it is dysfunctional. In addition, successive governments (irrespective of political hue) have exhibited a lack a common purpose. The Department of Work and Pensions (DWP) wants people to save, whereas the Treasury favours consumption, not least to bolster VAT receipts. This pushmi-pullyu position manifests itself as contradictory policies and ambiguous communication, which does nothing to stimulate a savings culture.
The industry knows that it has to radically change its behaviour, not least because some within it have finally realised that the pursuit of their own self-interest, at the expense of their customers, may ultimately prove to be the industry’s nemesis. Furthermore, change would be more lasting if it were driven by the industry itself, rather than through state intervention. But the industry is in the Last Chance Saloon of public opinion. Many believe that there is no prospect of it challenging its own, deeply entrenched, vested interests. Ordinarily this would not be of great import, but financial services are an exception. Not only does the industry directly benefit from an annual subsidy of over £30 bn (via tax relief), but the Treasury fields the consequences of industry failure, via welfare payments, made manifest by an under-saving nation.
Consequently, the industry is risking muscular state intervention to “shove” (not “nudge”) it into putting the customer at its centre. Once the new National Employment Savings Trust (NEST) has “bedded down”, the Government could, for example, dramatically enhance NEST’s capabilities (including removing the contributions cap and the subscription charge), thereby exerting considerably more competitive pressure on the industry.
In the meantime, the majority of the population lack the financial wherewithal (and, in many cases, the will) to make their own retirement saving arrangements. Certainly, 90 per cent+ of the population has no need for complex, expensive savings products. Mass mutualisation of their pension pots would be of great service to them. A small number of large, collective, DC schemes would enable people to pool their longevity risk and harness enormous economies of scale to drive costs down. Retirement incomes would then be larger, reducing pensioner poverty and the demand for state benefits, and the underlying pools of assets could, in effect, become akin to our sovereign wealth fund.
But, with the economy weak, the Government is not currently pushing to catalyse a savings culture. There is a brief opportunity (between now and 2017, when NEST is reviewed) for the industry to resuscitate its reputation by exhibiting leadership (and discovering some humility). It should implement a range of initiatives that put the customer at the centre of everything it does. This would require the industry to confront its own short-termism, and start delivering value for money to its customers, whilst bearing in mind that customers want to feel in control of their savings. It would also have to overcome its fear of simplification, standardisation and transparency, and discard the deleterious practices that are enshrined in the principal-agent problem.
A leap of faith is required by the industry, because whilst profits may diminish in the short term, the long-term outcome could be a rejuvenated reputation.…and business growth. Finally, and crucially, trustees need to start behaving as the principals they really are, helping to drive the reshaping of the industry. Indeed, trustees ought to be the catalysts for change.
Michael is a Research Fellow at the Centre for Policy Studies (CPS). He is the author of “Put the saver first” (CPS, July 2012).