The term of 2022, depending on your preferred source, was “goblin mode”, “gaslighting” or “permacrisis”.
Were there an acronym of the year it would have been LDI, no contest. For a few frantic days in September, we all scrambled to ascertain what liability-driven investment was and how defined benefit pensions had risked implosion because of it. Cue soul-searching about regulation and whether the push to reduce schemes’ risk by holding more bonds was a root cause.
Just as rising interest rates finally improve the funding of these artefacts of generous retirement provision — something only a sliver of today’s UK working age population will benefit from, at least in the private sector — another crisis comes along to hog the limelight. Perhaps this year might be the time to turn attention to the rest of us?
Defined benefit pension schemes have been non-existent, closed or deceased in every workplace I’ve had, something that is increasingly the norm. Official numbers put defined contribution pensions membership, where the saver bears the risk of their eventual retirement income, about 55 per cent higher than defined benefit schemes. That doesn’t tell the whole story: thanks to the success of workplace auto-enrolment since 2012, there are more than 15 times the number of active savers in DC schemes compared with DB, according to the Pensions Regulator.
Everyone knows that many of those pension pots will be inadequate. Average assets per member is low given the influx of new savers. But PwC in 2021 put the average pension pot for the first generation of DC workers to retire at about £50,000, compared with £400,000 for the average capital value of a DB member’s benefits. There are four to five times the assets in old-style pensions schemes as are held in the DC schemes typically offered to workers today.
That is the first reason that DC pensions deserve more attention: a looming scandal of intergenerational inequity to rival what the housing market has to offer. Self-satisfaction about auto-enrolment, now set at 8 per cent of salary, of which just 3 per cent comes from the employer, is part justified and part premature. A 2017 review found that it should be expanded, to better cover younger or part-time workers, and that contributions should be higher.
Neither has happened. How much higher is a matter of great debate. But the much-admired Australian system is moving towards 12 per cent employer contributions by 2025. “We need probably 25 per cent going into people’s pensions,” says Nico Aspinall, a DC specialist, who argues that contributions should be weighted towards employers. That sounds outlandish, though it wouldn’t have been in the DB era. But it is a difficult conversation when the cost of living crisis could push more people to opt out of pension saving.
DC should also be the focus for efforts around getting more pension money either into UK equities, or into infrastructure and other “productive” investments favoured by the government. Much of the mature DB world is inevitably heading for buyout deals by insurance companies. It is the relatively youthful DC space that has the time horizon needed.
The lesson from other countries is that investment in illiquid assets is a function of scale, says former shadow pensions minister Gregg McClymont. Hence, the government’s preoccupation with consolidation, something that got a nod in December’s Edinburgh reforms.
But, like the fiddling with the charge cap to allow funds to pay performance fees, this is unlikely to be sufficient. The structure of the DC world, split between trust-based provision and contract-based schemes through insurance companies, needs more radical surgery to unlock investment, say experts; much of the unit-based, daily-priced DC world lacks the vehicles or indeed the incentive to consider other investments.
It would be easy to feel gaslit. The DC issues are urgent, well understood and largely ignored. Yet the focus is back on DB after its latest episode of permacrisis. As Nigel Wilson, boss of Legal & General, said when asked about investment strategies at a parliamentary hearing into LDI, “it may be that actually we want to spend more time on the DC pension schemes”. Yes please, Nigel. Yes please.
