Sharon Bowles

This blog pays  tribute to someone of whom I knew nothing but a couple of weeks ago but who has made an extraordinary contribution to UK pensions by means of what should be  known as the Bowles Amendment.

The Bowles amendment (officially amendment 72 of the Pension Schemes Bill),  protects those in big funded DB schemes run by the Universities , the Railways and Local Government from closing or converting to some form of DC. It also protects a lot of smaller schemes run for employees of unions and other not for profits who may not have the profile but have the same endeavor,

Sharon Bowles – offically Baroness lady Bowles of Berhamstead, is a Liberal peer who together with Lord Young and Baroness Altmann proposed the amendment and stood up for open DB schemes  in danger .

Summing up after an impassioned speech, re-published below she says

Part of this Bill, on CMP (CDC) schemes, is fixing a problem for one newly privatised employer. Why dump others who have found good ways to make their DB schemes flourish and last? If the Government do not make it clear, that is what will happen: they may well end up being dumped.

In the first group of amendments, the noble Baroness, Lady Sherlock, said that she did not want CMP (CDC) schemes to undermine DB schemes. Without this amendment or something like it, they may well have nowhere else to go. This is not a nice-to-have amendment; it is vital. The issue should not be swept into the corner for these pension schemes to die quietly, and I wish to test the view of the House.  (my bold)

The amendment reads

In exercising any powers to make regulations…. the Secretary of State must ensure that—

(a) schemes that are expected to remain open to new members, either indefinitely or for a significant period of time, are treated differently from schemes that are not;

(b) scheme liquidity is balanced with scheme maturity;

(c) there is a correlation between appropriate investment risk and scheme maturity; ​

(d) affordability of contributions to employers is maintained;

(e) affordability of contributions to members is maintained;

(f) the closure of schemes that are expected to remain open to new members, either indefinitely or for a significant period of time, is not accelerated; and

(g) trustees retain sufficient discretion to be able to comply with their duty to act in the best interests of their beneficiaries.”

The liquidity profile of an open and active scheme that is receiving regular, significant cash contributions is very different from a closed scheme. This amendment seeks to ensure that they are treated differently accordingly.

Before re-publishing Sharon Bowles’ speech , I have inserted this  diagram, produced by my friend and former colleague Derek Benstead. It explains graphically what Baroness Bowles says in her simple and powerful words.

Nowadays, those with defined benefit pensions are regarded as the lucky ones, yet there are still millions of people in thriving open DB schemes where, if you start work today, you can join. They are under threat because the Pensions Regulator does not recognise the substantial difference between open and closed schemes.

An open scheme is open at both ends. It has no end date and is open to new members, providing a continuing supply of new contributions, including from future members.

Cash flow is steady state or positive, giving inherent liquidity and allowing assets to be used to generate returns.

A closed scheme is closed at both ends. It does not permit new members. Contributions progressively dwindle to zero and it has a finite end date when everyone in the scheme has died.

Closed schemes have a progressively ageing member profile, often or usually negative cash flow and to pay the pensions, the assets must provide liquidity and are progressively consumed.  (Hansard )

Sharon Bowles cites as examples of open pension schemes local authority pension funds, the Nuclear Decommissioning Authority and the Railways Pension Scheme. Surprisingly she does not mention the University Superannuation Scheme.  (though later in the debate Ros Altmann does)

Sharon Bowles continues

The different classes of open and closed schemes require different investment, risk and liquidity strategies. A low-risk liquid investment strategy is more appropriate for closed schemes where the loss in asset values would impair a model that relies on asset consumption as it moves to its end date. They cannot risk running out of assets too soon and recovery from losses on dwindling assets is difficult.

The same strategy does not need to be applied to open schemes. With a pipeline of new and younger members, assets do not need to be liquid, are not inherently dwindling, and a far longer investment horizon is possible. An investment risk profile of the type generally classed as balanced rather than risk-averse can safely be followed, including real assets such as infrastructure.

As an example, the Railways Pension Scheme invested in the Carraig Gheal wind farm in West Argyll and the Sleaford biomass plant, providing both environmental and local community benefits.

This type of investment brings higher returns and the contributions from the members and the employers remain affordable. If open schemes are needlessly pressed to have the liquidity and risk profiles defined for closed schemes, it is inevitable that they too will ​close due to unaffordability: start the run-down, jeopardise employer companies and employees will lose out, pay more, or both.

The reason for this amendment is that, although open schemes and run-on is given as an acceptable strategy in Annex F of the (Pension Regulator’s) impact assessment, the Pensions Regulator is developing a strategy that requires both open and closed schemes to have a de-risking profile, without adequate recognition of the different natures of the schemes.

The regulator’s DB code suggests treating accrued benefits the same in open and closed schemes of the same maturity, which fails to recognise the difference in the models that I have just explained. One open scheme may have a greater or lesser age maturity of its members than another open scheme, but it is not comparable in risk and liquidity terms to a closed scheme of identical member age profile because both ends are open. It is perpetual and new members and cash flows come in.

Amendment 71 would add new requirements on the exercise of regulatory powers by the Secretary of State to ensure that regulations on scheme funding, as provided for in Schedule 10, do not fail to recognise the characteristics of open schemes.

Sub-paragraph (a) would require that open schemes are treated differently from schemes that are closed, which means that there should not be a one-size-fits-all policy that disregards the substantial differences that I explained and tries to compare an open scheme with a closed one. It must have its own regime.

Sub-paragraphs (b) and (c) list the features of liquidity and investment risk that need balancing with maturity, but also in the light of the perpetual characteristics of open schemes.

Sub-paragraphs (d) and (e) specify maintenance of affordability of contributions to both employers and members.

Sub-paragraph (f) would require that regulations and principles do not accelerate closures of open schemes—essentially, a do-no-harm requirement.

Sub-paragraph (g) states that trustees must

“be able to comply with their duty to act in the best interests of their beneficiaries.”

The effect of treating open schemes as if they are closed would require huge increases in contributions and, at an instant, put schemes in deficit.

Dependent on the scheme details, that may not fall only on the employer. For example, the Railways Pension Scheme has a shared-cost approach to funding in which the contributions of the members would substantially increase as well as those of the employer.

The Railways Pension Scheme provided me with figures on its strategy, but I understand that other open schemes are similar. For every £1 of pension income received by members, 75p comes from investment gains, with only 25p from contributions.

Professor Dennis Leech has commented on twitter that USS has an even higher level of benefit cover from investment income.

The Lords debate on the advantages of keeping open DB pensions schemes omitted data on the universities scheme, leaving the impression it must be in massive deficit. Here are the real figures for the past 20 years. Last year investment income paid for 82% of benefits. https://t.co/JjXtbgOzhc pic.twitter.com/2SrGUuE7oh

— Dennis Leech (@Dennis_Leech) July 12, 2020

Investments are maintained in a balanced portfolio with equity in the 40% range and only 15% in government bonds, defensive assets and cash. They have consistently met or exceeded investment return requirements.

If that portfolio were switched to gilts, income would crash because the days of 4.5% yields that underpinned conventional wisdom of investing in the long-dated gilts has gone in the wake of global quantitative easing. Where would the Railways Pension Scheme’s missing 75p per pound then come from—a near trebling of contributions? That would lead to closure and worse. ​

The employees cannot afford it, the companies cannot afford it and the fair-paying public cannot afford it. It is not protecting the public’s purse. Why allow that to happen due to an over-simplistic approach? The Government really need to defend open schemes in this Bill. Given that importance, I am minded to press the amendment to a vote.

On reading this debate and the subsequent comments, I am reminded of what it is to live in a parliamentary democracy that works.