Lord Hutton has failed to grasp the full extent of the problem with public sector pensions in his Independent Public Sector Pension Commission report, according to independent pensions consultant Ros Altmann.
Altmann (pictured) said civil unrest could be sparked by the type of severe action needed to bring down the UK’s spiralling public sector pension liabilities and argued that Hutton was wrong to claim that it was a ‘myth’ that public sector pensions were ‘gold-plated’.
She said while the average public sector pension pays £7,800, the cost of securing an annuity to provide that in the private sector would be £250,000.
She said Hutton was right to promise a review of the 3.5% discount rate on public sector pensions, but argued the rate needed to be much lower.
‘Around 1% to 1.5% would be more realistic,’ said Altmann. ‘All of these schemes are unfunded, and any money has to be borrowed in the future. It’s inappropriate to pretend to borrow at a different rate to the one you are borrowing at. You can’t borrow at that rate.’
Risk of rising liabilities
The UK’s pension liability stands at £750 billion, according to government figures, but a reduction in the discount rate to around 1% would increase liabilities to around £1.3 trillion, according to estimates.
‘If it was lowered to 1%, the liability would probably double or at least go up by 50% and be £1 trillion,’ said Altmann. ‘It’s academic but shows the true nature of the problem.’
Malcolm Small, director of portfolio and retirement planning at the Tax Incentivised Savings Association (Tisa), agreed that the discount rate needed reviewing.
Threat to sovereign rating
Concerns have been raised that the UK’s triple-A credit rating could come under threat if pension liabilities reached more than £1 trillion, but Small said transparency was needed over the scale of the problem.
‘I think we need to have proper transparency and whatever the number is, it needs to go on the national balance sheet. If it goes on the balance sheet, we would double the national debt, but the public has to be told,’ said Small. ‘We would suggest it needs to be at the upper end of the range Hutton has suggested.’
John Lawson, Standard Life’s head of pensions policy, said the cost of public sector pensions as a percentage of future GDP was the most important measure of affordability.
‘I’m not sure there’s any importance in having the value of future liabilities today. We’ve got to make sure it’s affordable in the future. The important thing is to make sure, as a percentage of GDP, as a country we can afford to pay,’ he said.
Career average schemes
Lawson welcomed Hutton’s consideration of career average schemes as alternatives to final salary schemes. He said the move would spare low and medium paid public sector workers from major changes.
Small said: ‘There’s been mood music around defined benefits. They will remain in the future of public sector pensions and this report indicates a direction towards career average rather than final salary.’
Addressing the shortfall
Altmann said Hutton was right to focus on requiring public sector workers to contribute more to their pensions as the best way to deliver savings for the government.
‘The only way we are able to address that is by asking workers to contribute more,’ she said.
‘It’s going to be unpopular and we may well see civil unrest as a result of this, but it seems the only way to address the shortfall.’
Adrian Walker, pensions development manager at Skandia, said that coupled with a rise in the age at which benefits could be taken, increasing contributions represented a short-term measure to improve the UK’s pension position quickly.
Hutton report: key points
l Members of public sector pension schemes should pay higher contributions
l Pensions should be changed from a final salary basis, possibly to career average schemes.
l Hutton called final salary schemes ‘fundamentally unfair’ arguing they could reward ‘high-flyers’ almost twice as much as others
l Hutton said there was ‘no evidence’ public sector workers accepted lower pay than they could get in the private sector in order to benefit from better pension provision
l Normal pension ages should be raised beyond their current levels to be in line with increasing longevity.