1) Public service pensions are the single largest liability on the government balance sheet – bigger than the national debt. (https://t.co/F8dsk2oIij)
2) The public sector employs more than 5 million people (most of whom have a pension).
It’s a big deal. pic.twitter.com/t0RLzseyOJ
— Ben Zaranko (@BenZaranko) April 6, 2023
We have got used to saying that if you are working in the private sector, you are unlikely to be accruing defined benefits. This should be modified to “you are unlikely to be accruing in your employer’s defined benefit scheme“. Most public service defined benefit schemes have sponsoring employers both from the public and private sectors. For instance, many teachers in private schools are in the public sector teacher’s scheme,
The anticipated cost of paying the pensions to members of these public sector schemes is determined by the Government and is huge.
The estimate of more that two trillion pounds of public sector pension liabilities is based on projections from the Office of Budget responsibility and the way of meeting those costs is decided by using a discount rate linked to likely Gross Domestic Product. This is known as the SCAPE rate ( Superannuation Contributions Adjusted for Past Experience).
The higher our likely GDP, the higher the discount rate , the lower the cost of servicing the liabilities and the lower the bills to employers.
Sadly, projections for GDP aren’t improving, they are worsening and this means that the cost to employers of participating in these public sector pension schemes is going up. But this cost will not be directly felt as the Government is promising to compensate public sector employers with a subsidy.
This subsidy will not extend to private sector schemes who are going to see pension costs increase (again). I last wrote about this in 2018 when the SCAPE rate fell to CPI +2.4%. This time it is falling to CPI+1.7%. This is just latest in a string of downgrades (from 3% in 2011, to 2.8% in 2016, to 2.4% in 2018, to 1.7% in the latest 2020 valuation) as the UK’s long-run growth prospects have become ever more dismal. But this downgrade is particularly large.
Public sector pensions are too big to be vulnerable to challenge by disgruntled employers, but private sector schemes who participate in public sector pensions have different dynamics. This blog looks at a potential way forward for these employers.
Impact on public sector services
Economists such as Ben Zaranko at the IFS expect the increased cost to employers of public sector pensions to eat into the supposed increases in budgets regularly announced in budgets. The Chancellor giveth in high level terms, but taketh back by demanding its money back to pay pensions (and from pensions paid).
So what seems like an increase in funding for public services can easily be wiped and even mean services have to be curtailed or closed. Despite this , it is unlikely that any Government is going to take on the public sector through further changes in pension promises at the moment.
Impact on private sector services.
As mentioned above, the impact of the lowering of the Scape discount rate, will be to increase pension costs to private sector schemes participating in public sector pensions. In the example of private schools , this means either putting up fees or cutting costs (for instance moving to a DC workplace pension).
Many will say that this no more than creating equality between private sector workers but that doesn’t count for much if your contract with your employer was partially based on you participating in a DB pension plan. Unsurprisingly, these fundamental changes in terms of employment do not go down well and can be more disruptive than directly passing on pension costs through the price of goods and services.
The case for a fundamentally different approach to either a guaranteed unfunded DB plan or a funded but limited DC plan is obvious.
Time for concerted action
There is here a clear need for a third way. This looks like an opportunity to establish a CDC scheme capable of providing an equivalent benefit to that given up when leaving a DB scheme – albeit without the guarantees.
CDC seeks to provide equivalent benefits to DB with a fixed cost to an employer and without guarantees to members.
It is not beyond the wit of the pensions industry to provide the infrastructure for such a scheme but it would be a huge risk to any private sector pension provider. Such a solution would need state aid, at the very least to meet the funding of the initial costs of authorization and establishment.
But since a very large part of the problem for the private sector is created by the TUPE transfer of staff out of public sector employment, it could be argued that these staff’s retirement welfare is still linked to work in the public sector (albeit for private contractors).
There is a prima facie case for Government, unions, advisers and employers to get round a big table and start talking about CDC.
The SCAPE rate can’t be a scapegoat for poor pensions – we need a third way.
The Government is currently considering broadening the capacity of CDC schemes to become “multi-employer” – effectively CDC master trusts.
There has not been much enthusiasm for the idea from employers with existing DC workplace pensions.
However, there may well be more enthusiasm from employers who have DB pensions – whose costs are about to sky-rocket.
Maybe the multi-employer CDC scheme has found its market.