Pensions policy in the UK is approaching its critical stage. With luck, today's interim report from Adair Turner's Independent Pensions Commission will add to the steadily growing pressure for the Government to make a fundamental change of direction.
The UK pensions system is not in crisis, but it certainly suffers from serious long-term problems. These are not all the Government's fault, but their resolution can only be brought about through changes in public policy. Mr Turner will set out an analysis of the problem today, but his recommendations are not due until later next year. This would be after a likely general election in early summer. The policy issues are resolvable but the politics of pension reform are lethally dangerous. Government needs to start preparing the ground now.
Public debate currently tends to centre around an ill-defined "savings gap", and swirls confusingly around other issues such as the closure of final salary schemes, retirement ages and company-pension deficits. The result has been a confusion that is corrosive of trust in the pensions system as a whole. The problem of inadequate private saving is rarely clarified (what does adequate mean?) and the shocking extent of current pensioner poverty has been lost in the debate.
In fact, there are three basic problems. First, too many pensioners live in poverty: the Department for Work and Pensions estimates that around 750,000 pensioner households live in poverty because they fail to claim their benefits. Second, savings incentives are poor: low-to-middle earners lose entitlement to 40 pence of benefits for every £1 of income from their own savings under the current system. Third, the system is too complicated for people to plan their own retirement.
All of these problems could be addressed by increasing the generosity of the basic state pension and making sure that everyone is entitled to receive it. It should be raised to the income-support level (around £100 per week for a single pensioner) and linked to earnings. Means-tested benefits for pensioners would no longer be required, and the reform could be paid for by abolishing state second pensions and the associated national-insurance rebates. In the longer term, the pension age will also need to rise by a few years.
Unfortunately, the politics is not so simple. There are two principal obstacles. First, to increase the total amount that is saved there are a limited range of unpalatable choices: we can save more (which means consuming less now), or we can work longer (which means giving up leisure), or both. There is simply no painless third way. Second, any extensive reform of the pensions system is likely to result in losers. Reforms are thus likely to cause widespread short-term pain, plus some long-term losers, for longer-term widespread benefits.
There is no prospect of a radical reform package such as the one I have outlined coming forward before a general election. Adair Turner's Commission itself was set up to consider the more limited issue of whether there was a case for "moving beyond the current voluntarist approach" to pensions-saving. In other words, to consider whether there was a need to compel people, or perhaps their employers, to make higher pension contributions. However, the motivation behind examining compulsion is obviously that there is a problem with pensions-saving more generally.
Compulsion is not the answer. Compelling companies to contribute to employees' pensions does not produce free money. While costs initially fall on companies, they soon adjust wages to compensate. Compelling companies is thus a way of forcing individuals to save. If individuals are compelled to save, and as a result lose entitlement to means-tested benefits, they will be furious.
The correct approach is to improve incentives so that it becomes more obviously in the interests of individuals to save. In the current environment, where incentives are relatively poor for many people, it cannot be argued that the voluntarist approach has been given a fair trial. Fix the incentives first, then return to compulsion later if saving still does not pick up. Government must be able to send out a clear message: your state pension will keep you out of poverty, but you must save if you wish to be comfortable. When you do, you won't lose entitlement to means-tested benefits. At the moment, no minister can say this.
Confidence desperately needs to flow back into the UK pensions system. Adair Turner quickly reserved his right to make interim recommendations, and the report is bound to address some of the minor issues and easier problems. However, if you're interested in the long-term future of your retirement provision, it is the analysis and discussion of objectives that will point the way towards the bigger reforms to come after the next election.
Ministers need to start preparing the ground now by working to build public support for the objectives of the system. Less pensioner poverty, less means-testing, better savings incentives and a simpler system seem like a good starting point to me. The public need to know what they will be paying for.
The author is research director of the Fabian Society