Osborne’s Mad March Hare
By Martin Dolphin
George Osborne’s proposed change to pension law that will no longer require people to buy an annuity with their pension pots is a scam designed to win a few votes in next year’s general election. It is not a real attempt to ensure that people are not poor in retirement.
But like all populist utterances it is based on a certain amount of truth. In this case the truth is that the market has failed pensioners. The financial institutions that had to be used by people to build up pension pots to provide an income in retirement had abused their powerful position to impose excessive charges. Providing pensions has long proved to be a very profitable activity for the City of London. At today’s annuity rates a pension pot of £50,000 will buy a person of 65 an annuity with some inflation protection of only £2,000 per annum.
People were unimpressed by this return on their investment and Osborne has tapped into this dissatisfaction. But it is cheap popularism because it in no way addresses the central problem of how you ensure that people have a standard of living in retirement that is not dramatically different from what they had while working. Indeed quite the opposite. It increases the likelihood that they will be poorer in retirement since Osborne’s cynical move increases the risk people will mismanage their retirement fund either by spending it too rapidly or investing it unwisely. The British Pension system was broken. But Osborne’s solution will not improve the situation.
Steve Webb, the government’s Liberal-Democratic pension minister, had been pursuing an alternative way of fixing the British pension system through the legalization of Collective Defined Contribution systems (CDC). In a CDC risk is pooled among a large number of workers and costs are reduced through economies of scale. Furthermore members do not buy an annuity on retirement. Instead their pension is automatically determined based on their contributions over their working lives and the economics of their collective fund.
It is generally agreed that the pension of someone in a CDC will be higher than a person in an individual scheme. A figure of 30% higher seems to generally accepted. Holland and Denmark run CDC type systems. There, a worker on the average wage can expect a pension of close to 100% of his pre-retirement net income. Such a good pension system is only partially explained by its collective nature. The other reason the pension system is so good is because each year close to 20% of a workers gross salary is paid into the pension pot – half by the employer and half by the employee.
Steven Webb’s move to legalize CDCs was a limited move in the right direction. It remains to be seen whether it will survive Osborne’s cynical electoral ploy which showed no interest in ensuring that people had a good standard of living in retirement. Certainly the City of London will be well pleased if Webb’s proposed move to CDCs is buried.