Busting the coalition's pension mythsFollowing a resolution at the November meeting of EIS Council, Assistant Secretary Drew Morrice provides information on the truth about public sector pensions.
Much misinformation has been spread through Coalition Government propaganda and the biased, anti-public sector agenda in right-wing sections of the media.
Here, we set the record straight and provide a clear picture on both public and private sector pensions.
Following the last UK General election, George Osborne, the Chancellor of the Exchequer asked the Independent Public Service Pensions Commission to conduct a fundamental structural review of public service pension provision and to make recommendations to the Chancellor and Chief Secretary on pension arrangements that are sustainable and affordable in the long term, fair to both the public sector workforce and the taxpayer and consistent with the fiscal challenges ahead.
The Independent Commission was asked to have regard to the growing disparity between public service and private sector pension provision.
Lord Hutton of Furness produced an Interim Report in October 2010 with a Final Report published in March 2011.
Leaving to one side the popular view that public sector pensions are a "pensions apartheid” (David Cameron) and "gold plated and unreformed” (Nick Clegg), both demonstrably untrue, Lord Hutton set out a number of concerns or "risks” regarding public sector pensions.
- Longevity – a risk that higher than expected life expectancy reduces the amount of pension that can be paid from a set amount of assets.
- Investment – lower than expected asset returns mean that there are insufficient assets to pay benefits when they come into payment.
- Inflation – higher than anticipated inflation erodes the purchasing power of benefits.
- Salary – higher than expected salary awards increase the cost of providing pensions.
- Interest Rates – lower than expected interest rates reduce the amount of pension that can be paid from a set amount of assets.
Much was made of the cost of public sector pensions.
Lord Hutton stated that in 2008 -2009 public service schemes paid out £32 billion, about two thirds of the cost of the basic state pension.
In its evidence to the IPSPC, the Scottish Public Pensions Agency (SPPA) quoted from evidence from Audit Scotland that in 2010 pensions in payment exceeded contributions.
Pension in Payment Including Lump Sum
Total Employer and Member Contributions
Net Pension Costs
|£545.1 m||£253.4 m|
The final IPSPC report retained the view that notional pension schemes are sustainable. This was welcomed.
A notional (or unfunded) scheme is a scheme in which the contributions of both employers and employees are made to the Treasury.
The money paid in is not invested by the Treasury but is used as current revenue.
The Government then undertakes to underwrite pension payments in the future.
A funded scheme invests the contributions of both employers and employees and pension benefits are made from the investments.
Notional schemes are cheaper to operate. The administrative costs in funded schemes relate to investment and portfolio management.
The complex accountancy requirements set out in FRS17 have not only brought about a barrier to employers in the private sector in maintaining adequate pension provision, it has created a greater role for fund managers and accountants in the management of pensions.
In a notional scheme, the only costs are those related to pension administration (in Scotland, administered by SPPA) and periodic valuations (undertaken by the Government Actuary’s Department).
The issue of growing costs of providing occupational pensions disregards the long term nature of notional pensions.
While a snapshot, such as the example cited above, paints a bleak picture, a "contributions – in” versus "benefits – out” measure of scheme sustainability is a simplistic approach.
As the baby boom generation heads for retirement then there will be a deficit in the scheme.
In the 60’s and 70’s the government was consistently the beneficiary when contributions paid in exceeded payments paid out.
The Coalition government’s position on scheme costs has never taken the effect of the 2006/7 Reform package properly into account.
The National Audit Office was clear that the cost of public sector pensions when set against the UK GDP will fall from 1.9% to 1.4% by 2060. By switching from indexation linked to CPI as opposed to RPI the average pensioner will lose £30 000.
Hutton had a point regarding longevity. When comparing the 2008 assumptions on life expectancy in relation to the 2004 assumptions the Government’s Actuary has stated that, for "normal health” pensions (i.e. those not seeking medical retirement) at 60 men are expected to live 3.6 years longer, women 4 years longer.
For "normal health” pensions at 65, men are expected to live 3.5 years longer, women 3.9 years longer.
In Britain in 1970 there were 4.3 people in employment compared to 1 in retirement. In 2010 the ratio is 3.6:1 but by 2050 the ratio is projected to will fall to 2.4:1. That has to be managed.
The 2006/7 reforms dealt with this issue. This established a "cap and share” mechanism.
If, following a scheme valuation costs were deemed to be rising, then benefits would be renegotiated or the costs would be borne by scheme members.
The suppression of scheme valuations by the Coalition Government prevents any accurate costing to determine whether "cap and share” should be introduced.
It is also true that there is a growing disparity between public sector schemes and private sector schemes.
Public sector schemes cover around 83% of the workforce whereas in private sector schemes the coverage is significantly poorer, (for example, in the hospitality industry only 6.1% of the workforce has access to a pension scheme) although auto enrolment, introduced by the previous Labour government is intended to deal with this situation.
Further, two thirds of employees in the private sector get no employer support with pension provision.
The majority of public sector schemes are defined benefit schemes. These are schemes in which the pension to be paid is linked to a benefit which is set out at the outset.
Between 2004 – 2007 there was a 25% drop in defined benefit schemes provided by the private sector.
The closing of defined benefit schemes should not create a "race to the bottom” as described by the TUC. Lord Hutton has accepted this.
It is interesting to note that while there has been a 20% drop in defined benefit schemes in the last decade only 2.5 % defined contributions schemes have opened in that period.
The fact that two in three people in the private sector have no pension provision is an indictment of employers.
The average public sector pension is worth around £6500 per annum – far from the "gold-plated” myth popular with right-wing politicians and tabloid editors.
For Scottish teachers, the average pension is around £10,000 after a career-long service.
The TUC conducts an annual Pensions Watch of top directors’ pensions. In a recent survey of 362 directors from the FTSE 100 companies the average annual pension was £224 121, which is 23 times the average occupational pension.
While some companies were closing defined benefit schemes to employees, directors have retained such provision.
While most public sector pensions accrue on a 1/60 basis, the pensions of many directors accrue on a 1/30 basis. If public sector pensions are alleged to be "gold plated” then the pensions of top directors are "platinum plated, diamond encrusted”.
The real issue regarding pensions is the adequacy of pensions in retirement. Across the OECD taking account of mandatory pension provision the average replacement rate sits at 64% of earnings.
In Britain, it sits at 31%. Nearly one in three of Britain’s pensioners is at risk of poverty, compared to an average of one in five across the European Union.
Britain at the moment depends on good voluntary occupational pension provision, such as the Scottish Teachers’ Superannuation Scheme. Inadequate pension, whether state or occupational, forces individuals back to the state to depend on benefits in retirement.
When the government demands fairness between public sector and private pensions the only fair way to do this, without a drain on public expenditure, is to improve private pensions.
If people opt out of voluntary occupational schemes they are forced to rely on state pensions which are inadequate in Britain. If voluntary schemes do not provide an adequate pension then pensioners fell back on state benefits.
Britain is not a poor country. The National Audit Office is currently investigating a backlog of 41 000 cases of tax avoidance involving £10.2 billion.
The TUC estimates that £25 bn. is lost annually through tax avoidance, £13 bn. from individuals and £12 bn. from the 700 largest corporations. Tax "planning” by the wealthy accounts for around £8 bn. annually.
At a time when contribution increases to pensions from Scottish public servants will save £100 m. from the Scottish Government’s Departmental Expenditure Limits one solution is to ensure tax compliance and punitive action for tax dodgers and evaders, both individual and corporate.
Pension provision is about political priorities. The design of the Trident replacement has already cost over £100 bn. to date but this appears to be a political priority.
Is that more important than adequate pensions and comfortable living standards for Britain’s pensioners?
The TUC has reminded its affiliates that the precondition for adequate pensions is a productive economy.
The TUC is clear that campaigning for better pension provision also means campaigning for significant investment in research and development, technology, training and infrastructure.
Over the last decade falling stock markets reduced pension assets, tumbling interest rates reduced pension assets and companies moved away from collective pension provision to individualised schemes.
Rather than admit political underachievement in maintaining growth in the economy individuals were blamed for the pensions crisis for living too long!
Teachers are tax payers too and contribute through taxes to the state pension. Few parents complain about teachers earning decent wages for a demanding job. The provision of good occupational pensions is deferred pay.
In 2005 the previous UK Government agreed public sector principles with the TUC which stated that "public service pensions are a key benefit of public employment and should be celebrated as such…” It is time for the coalition government and Scottish Government to subscribe to this approach.