I am surprised by how little we have to learn from the American pension system. Thanks to David John for sending out a link to this article from the National Association of Plan Advisors.
This is taken from MICHAEL P. BARRY’s thought leadership on DC plan design.
The Role of the Employer in a DC Universe
In this context—a DC universe—the question naturally arises: Do we really need an employer at the center of it? The employer might, for example, set certain basic variables, such as the matching contribution rate. But the most difficult jobs in running one of these plans, it turns out—the thing that employers keep getting sued over—are “monitoring” (as the Supreme Court puts it) the fund menu and negotiating the deal with the recordkeeper.
Those aren’t inherently part of an employer’s skill set. Management is (or should be) good at running its core business: making widgets. Why does it also have to hire an investment staff, who in turn (often) hires an outside expert, to figure out what funds should be offered in its 401(k) plan? When the main reason to have a 401(k) plan is to deliver a (somewhat complicated) set of tax incentives for retirement saving—something we as a society have decided is a good thing. And the employer got picked to deliver these benefits because it manages payroll.
Other than the size of the match, perhaps, there aren’t a lot of workforce management incentives here. It’s not really credible that an employer’s ability to create a really great 401(k) plan fund menu is going to have a significant effect on, e.g., its ability to recruit.
I just want to emphasize: I’m talking about employers that are delivering a pay-related, cash benefit via an account-based plan. Indeed, a 401(k) plan allows an employee to save nothing at all, if in his or her judgment that is the right decision. Or to save 25% of pay—whichever he or she prefers. I would argue that this is not an employer whose primary concern with respect to retirement benefits is to “take care of our people” paternalistically. Rather, its concern is to provide its employees with the tools they need to take care of themselves—with maybe a nudge (i.e., defaults) in the right direction.
Why not let someone else—like a provider—do the very difficult job of managing the plan’s fund menu? And administration—recordkeeping, etc.?
UK (and Australian readers) will recognise that this is exactly what has happened in the UK and with none of the malign impacts imagined by experts who think that the concentration of wealth in a few Supers or Master Trusts, might distort the market.
Infact the American system is described in terms that would shock any UK employer
Management is (or should be) good at running its core business: making widgets. Why does it also have to hire an investment staff, who in turn (often) hires an outside expert, to figure out what funds should be offered in its 401(k) plan? When the main reason to have a 401(k) plan is to deliver a (somewhat complicated) set of tax incentives for retirement saving—something we as a society have decided is a good thing. And the employer got picked to deliver these benefits because it manages payroll.
Ironically, what marks the American system is the belief in funds and of fund-picking as key to the success of a good retirement plan. This is precisely the opposite direction than that we have taken in the UK. I suggest that the reason fund picking is still seen as core in the American system is because American staff have a much higher respect for their financial skills than the average UK worker.
This may be a flawed view, but from my limited experience of working with American organisations, I’d say it is a view that extends from a much higher degree of self-confidence in an individual’s ability to do it themselves. Call it empowerment, engagement or what you will, the view of self-determined retirement planning revolves around saver’s ability to pick a winner.
But of course , there’s moral hazard here. Heads “I win“, tails “you pay me compensation if the funds I choose from your selection don’t work out for me!” .
The advantage of a provider based model
The employer based model described in this article is one we recognise as the British model.
Increasingly, replacing the employer-based retirement savings system with an individual-based one would provide better results for employees https://t.co/fzoUeaeoQQ
— David John 🇺🇦 (@dcjretiresecure) April 18, 2022
By accepting that “providers” like Nest , Peoples and the big insurers are better placed to run our DC schemes, we have given up on the “group sipp” approach to retirement planning in favor of strong defaults.
Our system however retains the American 401k philosophy of individual choice in the decumulation phase of the retirement plan. Employers are not interested in a strong default in decumulation, precisely because it loads them with the kind of risk that plagues the American system – the moral hazard mentioned above.
Passing on that risk to providers who can offer “safe harbour” decumulation options is still a work in progress since the emergence of the strong default in decumulation is yet to emerge in the UK. But it is on its way, it is what CDC is really about; if we are to maintain our thought leadership in pensions over America, it will be through our capacity to put the provider not just at the heart of the saving process, but of the spending process too.