Of nuclear deterrents, sledgehammers and nuts – (DWP Select on DB)

The 90 page report on the state of our defined benefit pension schemes is published this morning. From first to last it is the work of Frank Field, it begins with BHS and ends with BHS, the confrontation with Philip Green informs most sections.

“Sir Philip Green’s ownership of BHS epitomised the actions of a bad pension scheme sponsor”

The wider question is whether they epitomise the actions of DB sponsors in general, despite drawing our attention to schemes such as Sir Bernard Matthews’ Turkey Farm’s and the Halcrow Scheme, the report does not provide evidence of widespread bad practice, Nor is there evidence that the PPF is under serious strain. Nor is there any real evidence that we cannot afford our defined pension liabilities;

The report does make some useful contributions. The section on Regulatory Apportionment Arrangements was helpful (especially in the light of the PPF’s decision to defer publishing its levy calculations so it can include self-sufficient arrangements.

The criticism of the Pension Regulator as being too slow to act on BHS and in general too reluctant to issue contribution notices and compulsory wind-up orders is historically valid. I suspect that enforcement at tPR will be tougher going forward but the system of “nuclear deterrents” that the Select Committee propose are inappropriate.

The most eye-catching recommendation was for the watchdog to be given powers to treble the fines it can impose on employers avoiding their pension responsibilities.

Speaking to the press, Frank Field said

“It is difficult to imagine the pensions regulator would still be having to negotiate with Sir Philip Green if he had been facing a bill of £1bn, rather than £350m, He would have sorted the pension scheme long ago.”

I’m not so sure about that. There has to be proportion in our dealings with each other. Going ballistic is seldom a way of sorting out a quarrel and there are other ways of looking at pension deficits than through the prism of a gilts plus valuation method.

I was pleased to see Neil Carberry of the CBI quoted


I do not suggest we are weak with future Philip Greens. But to suppose that they present an existential threat to the British Pension system is wrong, just as supposing that the prevailing valuation methodology (quoted in the paper as “gilts +1” is right.

The arguments from among others Joanne Seagers, Andrew Bradshaw Lesley Titcombe and Neil Carberry is that it is better that we have the complex and sometimes lengthy negotiations on scheme funding than this sabre rattling.

Facile attempts to dumb down benefits

Much of the body of the report concerns itself with the capacity of schemes to rid themselves of liabilities at the member’s expense. Steve Webb is generally very good in his comments. The report states  it costs the prospective  pensioner £20,000 in benefits when a promise changes from RPI to CPI indexation. It is only too easy to give this money away, but it is hard to earn it back.

I strongly object to member’s benefits being used as a bargaining counter in the negotiations between scheme , employer and the Pensions Regulator. There is a very good argument for conditional indexation on DB schemes going forward ( promise on outcomes is generally a better promise than one on contributions – assuming there is some trust in the system.

Gaming with people’s pension rights is not the way to conduct negotiations on schemes such as BHS , any more than pointing a nuclear option at the sponsor. The compulsory haircut of the PPF is the unfortunate price of failure, but it should not become the price of victory too – the member deserves more than that.

From facile to dangerous

If the “nuclear deterrent” is facile the paper’s recommendations to fold small schemes into a “living PPF” is dangerous

Here is my friend Derek Benstead’s quick reaction to seeing the paper

The Pension Protection Fund is, in effect, an employer sponsored pension scheme which need not be any less cost efficient than any other pension scheme. 

The PPF is an excellent solution to the problem of the provision of pensions after an employer’s insolvency.  If an insolvent employer’s scheme is prudently funded, it need not cost anything in levies to provide compensation from the PPF. 

“Calling upon” the PPF should be the normal outcome from an employer’s insolvency.  It is not a failure to use the PPF: it is the system working as it should.

I cannot see why it is appropriate or necessary for small schemes to be consolidated into an aggregator fund.  This idea rather assumes the scheme is already closed to accrual.  The PPF already serves as an aggregator fund of schemes of insolvent employers.  If the employer is not insolvent, the employer is likely to want to keep control of the funding of its own scheme. Cost inefficiency of small scale of schemes is not a major driving force of defined benefit pension unsustainability.

Neither is it the accrued right to pension indexation which is making schemes unsustainable.  Investing increasing amounts in bonds which earn a very low return is making schemes unsustainable.  It is not helpful to make the investment return more certain, if the investment return is consequently too low to support the benefit payments.  It is not right that accrued rights to pensions should be cut in order to afford investment in unproductive assets such as bonds at very low yields.

If, and it is a very big if, cuts to the guaranteed indexation of accrued pensions is allowed, then the following are the minimum terms for the quid pro quo:

  • The statement of funding principles must include a funding plan for payment of the originally guaranteed increases on a discretionary basis.
  • The statement of investment principles must include an investment plan which is likely to earn sufficient return to pay the originally guaranteed increases on a discretionary basis.
  • If the scheme is wound up and insured, the originally guaranteed increases are reinstated.
  • The scheme is open to new entrants and is the employer’s nominated scheme for auto-enrolment.

More than anything else, a sustainable defined benefit scheme is one which is open to new entrants, with a benefit design which is manageable within the employer’s ability to contribute.  A scheme which is receiving cash flow in from assets and contributions has the cash flow to pay benefits, without a major exposure to short term market value risk.

Rather than allowing the cutting of pension indexation on accrued rights, it would be better for the industry to rediscover the benefits of productive investment.

I do not think that fiddling with the timetable for actuarial valuations will help any.  To use the example of BHS, the employer has been gradually failing from before TPR was created in 2005.  Saving a few months on the actuarial valuation timetable is an irrelevance for dealing with events unfolding over 10 to 15 years.

Reducing the length of recovery plans won’t help any.  If an employer is to willingly sponsor a defined benefit scheme, it needs to be in control of its commitment, not have control taken out of its hands.

The PPF risk based levy is not large enough to incentivise behaviour.  If schemes are prudently funded, and the evidence of the First Actuarial Best Estimate Index is that they are, the PPF should not need to raise a levy at all (unless the schemes entering the PPF have lower than average funding, in which case a levy can be charged to raise funding to average levels). 

The PPF should be a satisfactory benefit outcome if an employer becomes insolvent.  There should be no need to seek “better than PPF” outcomes.  If, in general, people are dissatisfied with the PPF as an outcome, then let’s improve the PPF.  Introducing annual pension increases on pensions earned before April 1997 would be a good place to start.

A lengthy knee-jerk reaction that will do no good

I was asked to make a quick comment yesterday evening , based on a skim reed. I have since read the whole paper and am comfortable that my initial reaction was right. Fortunately my knee-jerk is 91 3/4 pages shorter than Frank Field’s.

1.    BHS is not a calamity, it is showing the PPF working as it should. BHS is a broken business, if Britain wants to improve productivity it needs to let the likes of BHS fail.

2.    The proposed remedies to the “calamity” of BHS could be more calamitous, allowing indexation to be conditional (retrospectively) and allowing small schemes to fold into a living PPF risks undermining the good work of trustees over the past few years and could lead to a needless dumbing down of benefits.

3.    There is a Green Paper on the future of DB on its way. It should focus on how we revive the provision of proper pensions. Going forward, conditional indexation can form a part of a new “third way” pension. This was the intention for the Defined Ambition legislation in the Pensions Act 2015.

As our FAB index points out, things are not as bad as some commentators are making out.

This report is an over-reaction to an overstated problem.

About henry tapper

Founder of the Pension PlayPen,, partner of Stella, father of Olly . I am the Pension Plowman
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