UK pension reform

An editorial in today’s Financial Times is critical of UK pension reform, but limits the discussion to high fees charged by fund managers, so misses an opportunity for more profound criticism of one of the world’s most complex state pension schemes.

Britain has among the least generous state pensions in the developed world. Close to half of UK pensioners need some form of means-tested benefit to get by. The only way to narrow that pension gap is to get more people saving into private pension schemes.

This is the aim of the government’s pension reform to be rolled out in October. …. But … saving will not be compulsory. Employers will have to enrol staff on plans but workers can then opt out. ….

Imminent reforms to the state pension should also ensure that it provides a more generous foundation on which to build for retirement. Everyone will get the same amount and its value will be inflation proofed. Yet it will still be low by international standards, so the need to save more remains. ….

Although the private sector stands ready to set up funds to aggregate these mini pension pots, the concern is that the fees will be high. One way to bear down on charges and protect savers would be for the government to open its low-cost platform, the National Employment Savings Trust (Nest) to all savers. At present it plans to impose restrictions on both transfers and total contributions.

These constraints were created to placate the private sector, which claims Nest will have an unfair advantage. But giving it more scope will drive price competition. If the savings habit is to take root, tomorrow’s pensioners must know their savings are going towards their retirement rather than a fund manager’s bonus.

Pension tensions“, editorial, Financial Times, 13 June 2012.

One way to reduce the need for means-tested benefits is to get people to save more for their own retirement. But is that the only way? It might be more effective to provide universal pensions set at the poverty line or higher, so that no pensioner has to beg for assistance, and each worker has a basic foundation on which to save for his or her own retirement.

The reformed state UK pension will be flat-rate. This is true. But the basic pension will not only be small, leaving means-tested top-ups in place, it will also not be universal. Thirty years of National Insurance contributions will be required to access a full pension. This scheme will leave many in poverty, and will discourage low-income workers from saving for their own retirement. People respond to incentives. When workers see that saving in retirement income accounts means lower top-ups to the state pension, they will choose not to save, even if management fees are low.

The social benefits of universal pensions are clear. According to the OECD (Pensions at a Glance 2011), the rate of income poverty for UK elderly is 10.3%. In New Zealand and the Netherlands, elder poverty rates are 1.5% and 2.1%, respectively. It is not a coincidence that the two countries in the OECD with the lowest poverty rates for the elderly are also the only OECD countries with universal pensions.

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