Tories’ latest bid for elderly vote: collective defined-contribution pension schemes

Pension schemes can be guaranteed to cause a deep yawn, if not escape into outright sleep. So the government has decided to pep up its grey vote with some exciting new pension proposals. Do collective defined-contribution pension schemes get you tingling? Me neither. But it’s important to understand them because they will affect the lives of millions of elderly people and are riddled with drawbacks and contradictions.

They are (presumably) the final element in the government’s pension package which has included several other significant changes.

• They have abolished the earnings-related element of the State pension, thus depriving millions of contributors of the higher pension that they earned.
• They have ‘triple-locked’ payments so that they increase by inflation, average earnings or 2.5%, which is higher – a commitment which increases the cost to the State and will likely be abandoned in the event a future budget crisis.
• They have ended employee opt-in to private workplace pension schemes by automatic enrolment.
• And they have removed the requirement that people with defined-contribution schemes must buy annuities, so that in future they will be able to blow the money accumulated in their pension pot on a car, a world tour or whatever, leaving them selves bereft thereafter.

This latest innovation of collective defined-contribution pension schemes is however a serious risk. It may achieve economies of scale by negotiating lower fees for fund management and administration (which are far higher than in the State scheme, by some 20% compared with 5%). Such schemes may also invest in riskier and less liquid assets that might obtain higher returns. However there will be nothing to stop a government in the future cutting the benefits and demanding that employers make up the shortfall.

There is also a contradiction between on the one hand the government’s wish to give people the freedom to spend their pension pots however they want, and on the other locking the money earned by people with collective defined-contribution pension schemes in a general pot which also risks future benefit cuts.

There is also the contradiction that auto-enrolment was based on the presumption that employees might not provide properly for their own retirement, while annuitisation is based on the opposite assumption that those same employees will invest wisely in retirement and not blow it in a once-for-all bonanza.

The real irony however of collective defined-contribution schemes is that it is indeed safer to rely on pooled savings and the economies of scale, but the logic of that argument is that the scheme that is safest of all, as well as fairest and most protective of those missed out, is a State pension scheme. The wheel has not yet quite moved full circle towards Barbara Castle’s State Earnings-Related Pension Scheme (SERPS), but it is moving strongly in that direction.