A New Pension Settlement for the TwentyFirst Century: Second Report of the Pensions Commission Cass

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A New Pension Settlement for the Twenty-First
CenturySecond Report of the Pensions
CommissionCass Business SchoolAdair Turner7
December 2005
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• State has been planning a reduced role in pension
  provision for average earner
• Proposition private pension provision should
  grow to fill gap
• Reality private pension provision in underlying
  decline

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Projected state spending per pensioner indexed in
constant 2003/04 price terms 2004 projections
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Participation in private pension schemes
2003-04, millions
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• Is there a crisis?
• Is there a savings gap?
• If the problem is in the future, can we wait
  until then to deal with it?

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State pension at point of retirement assuming
full contribution record for a person who has
been on average full-time earnings throughout
their working life percentage of average earnings
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Private pension income as a percentage of GDP by
source 2005-2050
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Percentage of 50-65 year olds in danger of having
replacement rates below benchmarks of adequacy
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Gross saving by sector as a percentage of gross
national disposable income 1980-2004
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Residential housing wealth as a percentage of GDP
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Wealth holdings in a closed economy in equilibrium
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Household non-pension financial assets and
non-mortgage debt as a percentage of GDP
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Barriers to a purely free market solution

• Behavioural barriers to rationality e.g. inertia
• High selling costs
• Declining employer interest
• Complexity
• Expectations of spread of means-testing

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Sources of costs for the median earner aged 40 in
the present Stakeholder Pension system
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Typical Annual Management Charge in alternative
forms of pension provision
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Percentage of pensioner benefit units on Pension
CreditIf current indexation approaches continue
indefinitely 2005-2050
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IFA assessments of attractiveness of different
earnings segments survey resultsThe design of
the state system means that the returns to saving
for people in this group are good.
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Two major elements of policy

• National Pension Savings Scheme (NPSS)
• More generous less means-tested state pension
  provision but at an age gradually rising with
  increased life expectancy

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Female cohort life expectancy at 65
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Impact of the 1940s-1960s baby boom ratio of 65
year olds to 20-64 year olds
Figure 1.45 p 99
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State pension provision the unavoidable trade-off
Figure Ex.6 p 17
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Public expenditure and pension age increases
Pensions Commission proposed range for debate
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Figure 3.1 p 131
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Percentage of adult male life spent after State
Pension Age
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More generous state pension in the long-term at a
later age

• Unified Citizens Pension?
• Evolution of present system BSP and S2P?

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Preferred way forward

• Build on current two-tier system and recent
  reforms, accelerating the evolution of S2P to a
  flat-rate pension by freezing the Upper Earnings
  Limit for S2P accruals in nominal terms.
• Index the BSP to average earnings growth over the
  long-term ideally starting in 2010 or 2011 as the
  public expenditure benefit of the rise in womens
  SPA begins to flow throughmaking this
  indexation affordable long-term by raising the
  SPA gradually, broadly in proportion to the
  increase in life expectancy, for instance to 66
  by 2030, 67 by 2040 and 68 by 2050.
• Maintain the reductions in pensioner poverty
  achieved by Pension Credit, but limit the spread
  of means-testing by freezing the maximum level of
  Savings Credit payments in real terms (which
  implies that the lower Savings Credit threshold
  increases faster than in line with average
  earnings).
• Base future accruals to the BSP on an individual
  and universal (i.e. residency) basis, and improve
  carer credits within S2P.
• Accept the consequence that the public
  expenditure on state pensions and pensioner
  benefits must rise from 6.2 of GDP today to
  between 7.5 and 8 by 2045 (depending where SPA
  reaches in 2050).
• Ideally introduce a universal BSP for pensioners
  aged over 75.

Figure Ex.8 p 21
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Percentage of pensioner benefit units on Pension
CreditWith proposed state system reforms and
introduction of the NPSS
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Key features of NPSS

• Automatic enrolment, but with right to opt-out
• Minimum default employee contributions of 5, of
  which 1 paid by tax relief
• Modest compulsory matching employer contribution
  (3) if employee stays enrolled
• impact on total labour cost 0.6
• Payroll deduction, national account maintenance,
  bulk-buying 0.3 annual cost target
• Individual accounts invested at individuals
  instructions default fund

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The role of the state

• Ensures that all people are out of poverty in
  retirement, and creates a sound base on which
  private savings can build
• Encourages and enables low cost saving, but
  leaves ultimate decisions to individual choice

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Pension income as a percentage of earnings for
the median earner retiring in 2053
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Typical Annual Management Charge in alternative
forms of pension provision
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Variability of real returns on equities over
historical periods 1899-2004
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Variability of real returns on equities over
historical periods 1899-2004
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Longevity risk in UK pension provision, billion
of total liabilities- broad estimates end 2003
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Inflows and outflows from NPSS
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Aggregate NPSS funds at different rates of return
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Stock of annuities arising from the NPSS
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Long-run effect of NPSS on private pension
savings as a percentage of GDP
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A New Pension Settlement for the Twenty-First
CenturySecond Report of the Pensions
CommissionCass Business SchoolAdair Turner7
December 2005