Why Thatcher’s think tank is probably right about pensions
The Centre for Policy Studies, which proudly proclaims its links to Margaret Thatcher and Keith Joseph, is perhaps not a natural ally of the TUC.
But its latest proposals on retirement income show that on pensions, good policy proposals based on sound evidence and common sense, can come from diverse sources.
The explicit aim of the report’s author Michael Johnson is to tackle the glaring inconsistency in UK pensions policy, and one repeatedly highlighted by the TUC, whereby the state nudges and incentivises people to accumulate retirement savings, only to desert them when they want to start taking the money.
In the accumulation stage people have to actively opt out of saving in a workplace pension under automatic enrolment – and very few do. They are then typically placed in a scheme that has to meet certain standards in costs and in governance.
Pensions freedom was introduced in 2015 in part due to concerns about retirees being sold inappropriate annuities to give them an income for life. No longer will most people be forced to buy an annuity giving them an income for life. But no longer is it clear what they should do with that money instead. So large numbers cash in their savings.
Johnson thinks that while the irreversibly of annuitisation (you give an insurer money and they pay you an income until you die) put people off, most are not opposed to any at-retirement default.
His auto-protection plan has two components:
- Initially there would be “auto-drawdown” during which savers withdraw between four per cent and six per cent of their savings every year. He said providers should be encouraged to provide a low cost, diversified default fund for undrawn assets; with economies of scale helping to deliver larger retirement incomes than otherwise.
- This would be followed with “auto-annuitisation” of the remaining savings at age 80. This would ensure that the individual was protected against living longer than they expect. It would also ensure that they were no longer exposed to the risks of markets falling and rising prices eroding the value of their savings.
Those who want to opt out of this arrangement can do.
The response from the traditional pensions industry to its publication was predictably hostile. Some were sceptical about the levels of drawdown proposed: is drawdown at 6 per too much? Maybe but I don’t think this undermines the broad thrust of the plan.
I have my own concerns about bits of detail.
Isn’t getting an annuity at age 80 is too late? By then many people’s ability to make financial decisions has deteriorated. And some through bad decision making or poor luck may have exhausted their savings entirely.
I also wonder whether it is right to use just undrawn assets to annuitise. These may be insufficient. There may be a case for taking monthly premiums from the fund to provide insurance for old age, an approach mooted by NEST in its own nascent retirement income plans.
Others have more fundamental objections. Broadly they claim that each individual’s needs are different and not catered for by a default options. But this objections founders on the problem of how the individual identifies their needs and is able to act on them.
There is a huge amount of behavioural economics evidence about why we are not very good at making decisions about pensions. We underestimate average life expectancy and our chances of living longer than that. We do not understand the effects of compounding inflation. We do not know how to balance the benefits of future income against spending today, and tend to favour the latter. And the traditional financial adviser sector is not geared up to cater to those on low and middle incomes.
The government has so far shown unwillingness to act. It called a halt to an initiative at state-backed NEST to develop a retirement income offering on not dissimilar lines to that mooted by Johnson.
But the intervention of the CPS shows that there is a growing consensus that there is a pressing need to develop a good value, well-researched retirement income product for Britain’s army of pension savers.