It’s always fun to see the government fail the very people who stir it into action.
Prohibitionists who fall victim to organised crime gangs. Warmongers who get called up in the draft. Rent control advocates who live in dilapidated buildings. Fearmongers who get cavity-searched. Students with vast education debts owed to the government. Globalisation protesters who can’t afford local goods. Communists who starve.
Ok, so sometimes it’s not so fun. But the irony is always there.
As HL Mencken said, “Democracy is the theory that the common people know what they want, and deserve to get it good and hard.”
The odd thing is that we never learn. Having identified a problem, people still instinctively turn to the government to sort it out.
Take for example the political promise of retirement. Why anyone would believe it’s plausible is beyond me. But for some reason, the British population believes they are entitled to a long and prosperous retirement. After all, it’s what the politicians promised.
The government has come up with all sorts of different ways to live up to its obligations. Each as flawed as the next. And the figures make the conclusion simple.
The World Economic Forum is expecting a $224 trillion shortfall for the world’s six largest pension systems by 2050…
PensionsAge summarised recent ONS figures: “UK pension liabilities reach £7.6trn; almost £5trn unfunded.”
One after the other, corporate pensions are already failing. The government’s Pension Protection Fund is having to bail them out… at a reduced level of benefits, of course.
Jamie Smith-Thompson, managing director at pensions advice specialist Portafina, explained that “10 years ago the Pension Protection Fund paid out £1million to people affected by a failed scheme. In the past year that compensation figure has risen to a staggering £661 million.”
The fund now owes more than it has in assets.
What’s going on?
That’s what the BBC’s Money Box radio programme asked. Two presenters followed a millennial on her quest to sort out a pension plan that was going to work. The result gave the programme its title: The Death of Retirement.
The various episode names gave plenty away too: “Can we afford retirement?” “Will the state pay for our retirement?” “The retreat of employers”. And “How much money is enough?”
I seriously doubt the millennial in the programme ended up saving a penny for her pension. She was steadily peppered with impossible demands from her expert advisers that the BBC brought in to reassure her.
Give a millennial a difficult task for a distant future benefit and they’ll turn away mumbling something about property prices, rents and student debt. Millennials are smart enough to know that political promises fail before they come due for Gen Y.
As the Telegraph explained, “People approaching retirement today need to amass savings nearly double the size they would have 15 years ago to achieve the same standard of living in retirement.” Low interest rates and terrible stockmarket returns are undermining those doing the right thing. So people have stopped doing the right thing.
Let’s look into what’s gone wrong with the political promise of retirement.
Playing the pension game
The pensions story is like a mathematical game with three variables. The contributions you put in, the retirement age, and benefits you get out. You play around with these three variables to get your system.
The state pension fixed all three variables and the result is an unfunded mess.
In coming years, all three variables will have to be reset. The retirement age will go up, the government will have to contribute more to the system (which means more taxes) and benefits will be cut.
The defined benefits pension system was introduced as the solution to the failure of the state pension to provide adequate retirement income. (Because if we can’t afford to pay the taxes to keep the state pension afloat, we can afford to pay the pension contributions, right?)
Under the defined benefits system, the retirement age and benefits variables are fixed, but the contributions variable floats. Companies have to put in enough money to make the system work.
The result is in the news regularly. You’ve probably heard about BHS, Carillion and others. The Institutional Investor reports:
A survey of pension disclosures for companies in London’s FTSE 100 index found that as of June 30 these companies had a combined pension deficit of around £17 billion — and Anglo-Dutch oil group Royal Dutch Shell had the largest defined-benefit-pension deficit of any of these companies in 2016, after its deficit grew by nearly 140 percent from the previous year.
Leaving companies and governments with the duty to top up pension pots by making contributions is too big a burden. It’s sending companies and local governments broke in spectacular fashion because they have to put so much money into their pensions.
The defined contributions scheme is the latest solution to this – another effort to save the political promise of retirement. It holds the contributions and the retirement age variables fixed, but floats benefits.
The outcome of the pensions game is now a matter of what you put in. The result will be a pathetic level of pension benefits because people won’t put in enough. But at least we can afford it…
In the end, the result is the same. A massive cut to benefits relative to what people are expecting in retirement. The system you use to get to this conclusion doesn’t matter. State pension, defined benefits, or defined contributions, the result is the same. A default on the political promise of retirement. At least, the quality of retirement we were promised.
But I haven’t mentioned the biggest factor yet – investment returns.
Under the defined contributions scheme the UK is moving towards, the system works to some extent if investments grow our retirement pots dramatically. That’s the basic idea of saving and investing for retirement.
The trouble is, this is gambling. If investments do not return enough, or even lose money, the whole system will deliver a pathetic level of retirement benefits.
Take for example what happened in 2008. After the US, the UK pension system had the highest level of losses according to the OECD. Our pension system is terrifyingly reliant on stockmarket returns.
The Telegraph reported on a stress test study:
One in five FTSE 100 defined benefit pension schemes would be at risk of failure if Britain entered another economic downturn, research reveals.
In a “stressed” scenario – such as a recession – the combined pension deficits of the blue-chip index would jump by £100bn, equivalent to four years of pre-tax profits, according to a study by consultants Cardano and Lincoln Pensions.
In such a scenario a fifth of FTSE 100 firms would face pension risks worth 30pc or more of their market value, making widespread scheme failure more likely.
Until next time,
Capital & Conflict