Perhaps the most dangerous misconception floating around the “popular” Reform UK is that levelling down the LGPS to a DC scheme for new joiners will level up council tax payers (the popular Reform UK might see pensions as that kind of  see saw).

But that’s not how it is , as private sector DB schemes found when they closed in the first decade of the century.

What happens when you close your scheme to new members is you have to change your investment outlook. Instead of having an infinite time horizon and the capacity to enjoy growth, you have an ever shortening time frame they call the “end game”.

What the end game meant for private schemes and would mean for LGPS is a matching of assets to liabilities with a shortening horizon. Ultimately it would mean a selling off of all growth assets and a movement into short duration bonds and gilts and maybe a transfer to an insurance policy. All of this would push up the cost of the LGPS to council tax-payers and for what?

Far from increasing the amount of money for council tax payers (the levelling up theory), it would mean LGPS becoming an albatross around the public’s neck and for a new generation it would mean a DC plan that everyone, especially the LGPS employee’s union advocates, a reduction in prospect from DC. This would lead to a breakdown in relations between unions and councils, a pressure on wages and/or demand for DC contributions.

This kind of change does not come cheap and does not result in any winners. Instead of being a see saw it is a general reduction in pension prospects and/or a massive increase of pension costs. Worst of all, it is hugely inefficient. It might in the long term be better to move LGPS to CDC in some cases. Where employers have no capacity to meet the variation of contribution demands of an open DB scheme, but there is a better argument to say they should be allowed to leave DB and join a CDC scheme or simply not join new savers into the Reform proposed DC scheme but join a CDC scheme.

Anything is better than closing the DB scheme and moving to DC. That was the mistake made by private DB schemes in the early years of this decade and it’s resulted in the endgame we have now, in which only the insurers are the winners.

A better way for a large DB scheme to work

There needs to be someone rethinking the way DB works at LGPS. You have some schemes such as Kensington, moving employer contributions to zero and some sticking with 25% + contributions basing the funding rate of the pension scheme on a risk free funding discount rate of gilts + 0.5% or something hopelessly over cautious. Probably the truth lies somewhere between and so long as gilts is used as a basis of valuation of liabilities, we will see wild variations between authorities and the kind of anger I’ve reported on in the West Midlands and particularly Wolverhampton and Birmingham.

What would be better is that all schemes accepted a single assumption of assets in the long term at something that doesn’t change with gilts rate and is the same wherever it is applied so everyone in LGPS gets the same deal. Con Keating, a long time ago, suggested this should be 6 or 7% and  this right now would be gilts + 1-2 and in the years when gilt yield rates were close to 0% as much as gilts + 6-7%. This brings us back to the infinite time horizon that an open DB pension scheme should have.

When I was at First Actuarial they applied such a steady approach to DB valuations which showed throughout the famine years of gilt yields (through the early years of the century to 2022) that pension schemes could meet their obligations so long as returns and liabilities were measured by a simple measures – the value of the assets and of liabilities at a Keating like discount rate.

What the risk free discount rates applied to DB schemes in these early years of the century meant was massive demands on employees. The LGPS schemes were massively in deficit using these risk free rates and now they are massively “in surplus” using the same approach. Thankfully for LGPS it did not go for the end game approach of geared LDI and now has the benefit of assets performing well and liabilities looking cheap to meet.

This article shows the value of staying open and the problems of entering an “endgame”.

But now LGPS fears it might be in an endgame already

There are those in the LGPS who would like to make both the liability valuation and the asset strategy “risk free”. This means investing in bonds and gilts and using a valuation of liabilities as close to Gilts as they can get. This is seen as prudent but infact it is over-cautious and it means councils are still having to over pay into their pensions. It is resulting in Reform UK saying that the scheme is investing badly and in this I agree with Richard Tice.

LGPS is not in an endgame, it has an infinite horizon and while it should not throw caution to the wind, it should embrace growth no and stay that way. It should adopt a 6-7% discount rate for good times like now and for the bad times that will come. That is because it is big enough to manage good and bad times equally.

Above all, it should resist being closed to future DB accrual for new joiners. It should offer a CDC scheme for employers who cannot afford the cost of doing pensions the DB way and it should make it clear to all employers – especially councils that DB does mean some change in contributions. But we should not have the craziness we see today with contribution rates being charged to employers being so different – based on the adoption of different discount rates and different perceptions of the time horizons of the scheme.

A word in Richard Tice’s defence

A final thought, George Graham’s excellent (room 151) article is behind a paywall (I cannot quote it for their copyright).

LGPS is not publicly debating these things. That is what frustrates the people who guarantee pensions – the council tax-payers.

We need a proper open debate and if nothing else , Richard Tice has started that. He is wrong (IMO) but he needs to understand why; there are good people at LGPS and its unions to tell him why.

Thanks to good people like George Graham and Jeff Houston who have helped me fix my scrambled mind on this!