There is nothing new about the search for a third way, indeed it is the pensions equivalent of the North West Passage. What is new about Webb’s thinking is that he is daring to think about a pension where the covenent is based on hope or as the cynical would put it “thin air”.
There is no meat on the bones. I hope that that is on purpose. It is for us, those who care enough about retirement issues to blog and read blogs to dream up a non guaranteed pension that can provide sufficient security for people to consider ist aspirations credible but is not so expensive to guarantee that it attracts no employers to sponsor it.
May I be one of the first to put forward by DA model, there is nothing I would like more than to look back in a few years with DA flourishing and laugh at myself for my naivety in suggesting such a solution but without a windmill at which to tilt, those cleverer than me may not bother to enter the lists.
I see DA schemes as workplace arrangements, offered by large companies or on a multi-employer basis similar to the new breed of mastertrusts. I see them as collective vehicles that benefit from the old-fashioned virtues of mutuality - trust, economies of scale and collective risk pooling. Those are the general features but for them to work I’m suggesting some underlying features which underpin them all.
First and foremost a credible “aspirational” pension needs to operate on a defined contribution basis. By that I mean that the contributions must be defined at outset and only adjusted with the blessing of all participants. This cannot be a variable cost arrangement with the balance of costs falling to any one party (member,sponsor or tax-payer).
Secondly, the benefits of such an arrangement need to be set at outset but adjusted over time on an equitable basis. The principle of equity in pensions is long-established and underpinned the distribution of with-profits funds. Equity can only be maintained by the highest standards of prudential governance and where we need rules it is around the assumptions made before and during the operation of a DA pension and those rules need to be agreed by all parties and only adjusted on the same basis.
Thirdly the granting of a licence to establish and run one of these Defined Aspiration pensions must require some serious hoop-jumping. The Pension Regulator defined what made for good DC outcomes; namely
- The right level of contributions (to match the benefit aspirations)
- The right investment strategy (to optimise the chances of meeting the targeted benefits)
- Security of assets – not so important in insured DC but dead important here where a single asset pool may be maintained in a segregated fund
- Proper administration - the entitlement of members to the right level of benefits will depend on many variables and both the investment administration and record keeping will be complex
- Value for money - any costs incurred are justified by the benefits they bring
- Converting pension savings into retirement income needs to be smooth and efficient.
Schemes that can prove to have nailed all six requirements and can demonstrate that they have a process of ongoing governance to ensure they continue to do so, should be allowed to operate under what in the USA (under ERISA) are called safe harbour conditions.
Put simply, the regulation of DA pensions needs to be light touch and those who set them up, sponsor them and manage them need to feel they can get on with doing so without needing to account for their pensions annually on a mark to market basis, pay PPF levies and employ an army of lawyers to guide them through a minefield of penal regulations.
Fourthly, how schemes go about achieving their aims should be up to them. There will be schemes which offer no investment choice and those that allow people to accumulate pension savings - their way. I assume that the vast majority of people will invest in a consensus default fund where decisions are taken for them but critically, defined aspirations will also enable pensions to be paid by the scheme rather than through annuities, this assumes of course that the principles of collective pooling apply at retirement but why shouldn’t they?
Fifthly, there needs to be a huge effort made to get people who join these DA schemes to understand the risks of things going wrong. They are of course the same risks as they are already facing but whereas previously people knew they were on their own, in collective arrangements
Sixthly there needs to be a paradigmatic mindshift among those working in the pensions industry away from satisfying regulation and towards meeting our customer needs. To use my parlance, we need to make people happy about their retirement. That means that we need to approach these pensions with an enthusiasm that I call “popcorn pensions”. This need not be frivolous though it should be fun. Achieving what we aspire to will not be easy but it should be approached and achieved with a sense of delight conspicuously absent from most pension discussions to date!