Pension
The BHS pension scheme has a deficit of £571m, which may mean that some of the pensions of its members may not get paid; whose fault is that, really?

The French Revolution had the Committee of Public Safety, which made the public safe by guillotining as many people as it could. The pensions world has The Work and Pensions Select Committee.

The deficit of a pension fund is the excess of its liabilities, that is the present value of the future pensions of its members, over the assets that the fund holds to meet these liabilities. The sponsoring employer is responsible for making up this difference, and the Pensions Regulator can step in to force them to do so. As BHS is no more, there is no-one to plug its deficit, so part of this deficit will be paid out of the Pension Protection Fund, a mandatory insurance vehicle set up for such an event, with the remainder funded by cutting members’ pensions, unless money can be diverted away from one of from Sir Philip Green’s yachts.

The main reason that schemes like BHS have such large deficits is because the liabilities have increased by much more than expected. There are 3 main reasons for this:

  1. life expectancies have increased;

  2. interest rates have reduced and the;

  3. legislation has made the benefits more costly.


I will deal with each of these in turn. The least financially significant of the three is the increase in life expectancy. This increases the value of liabilities as schemes have to pay their pensions for longer as the pensioners take longer to die off. That this cost has increased is not really anyone’s fault (except perhaps the actuaries’ who should have done a better job of anticipating it).

Probably the main contributor is the reduction in interest rates. The value of liabilities is inversely correlated with interest rates and interest rates are at historic lows. They are at historic lows because of deliberate government policy, or rather government policy via the Bank of England.

Finally, successive governments have straight-jacketed defined benefit (DB) pension schemes and increased the benefits of the lucky few who have a DB pension, and have increased the cost of providing these benefits, through a myriad of regulatory measures, to the point at which all companies that can have ditched their DB scheme.

At some point, BHS workers freely agreed to work for BHS with a DB pension benefit as part of their pay package. Successive governments have insisted that their pension should be many times better than the one they were promised, and then the government increased the cost further by reducing interest rates to nearly zero, and straight-jacketed employers so that it cost them more to provide these pensions. It is as if the government legislated that anyone who has a company car has to have a Rolls Royce, if you have a company car your employer has to continue to provide you with one and then increases petrol and road fund tax ten-fold.

The result of this madness, is that any company unfortunate enough to be saddled with a DB pension scheme has to divert cash into the scheme instead of into more useful stuff, like R&D or employing people, and has their credit rating hit because of the pensions debt. An employer would have to be crazy to open a DB scheme, so now employees have to take all investment and longevity risk themselves.

What does the Work and Pensions Select Committee propose? More powers to the regulators to make DB scheme even more of a burden on the employer. When all sponsoring employees of DB schemes have been guillotined, only then will Frank Field, pensions’ very own Robespierre, finally sleep soundly.

 

Nick Silver 154x154

IEA Pensions Fellow

Nick Silver is the Pensions Fellow at the Institute of Economic Affairs. Nick is also Director of Callund Consulting Limited, where he provides public policy advice on social security, pensions and consultancy services to corporate clients in all continents, in respect of non-state employee benefits. From 1998-2005, Nick was Director of Silver Actuarial Services. Prior to this, he was Manager of PricewaterhouseCoopers in the actuarial Department, and worked as an Actuary from 1991 to 1997. Nick received an MSc in Public Financial Policy (Merit) in 2004 from the London School of Economics and Political Science (LSE). He also has a BSc Hon in Mathematics from Bristol University. He is a Fellow of the Institute of Actuaries.

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