Pension Schemes: Reduction in Interest Rates (Hansard, 4 March 1999)

§ The Parliamentary Under-Secretary of State, Department of Social Security (Baroness Hollis of Heigham)
My Lords, the overall impact on pension income of the recent reduction in interest rates over the period of retirement is difficult to assess. However, all pensioners and pension funds will benefit from a strong economy with consistently low inflation.

§ Baroness Castle of Blackburn
Is the Minister aware that we are all in favour of low interest rates and low inflation? However, did my noble friend read the leading article in the Observer of a fortnight ago which pointed out that the combination of economic benefits had drastic implications for pensions policy, particularly that based on encouraging money purchase schemes? Is my noble friend aware that the benefits to which she referred are little compensation to pensioners like the gentleman from Andover who wrote to me to point out that annuity rates had halved in the past 10 years and that his life's savings of £100,000 would today buy an annuity worth only £4,500? Will she not therefore agree with the Observer, which states that the whole 1794 assumption on which current pensions policy, which encourages money purchase funded schemes, is based, ought to be and will have to be rethought completely?

§ Baroness Hollis of Heigham
My Lords, my noble friend quotes a letter, which I have not seen, in which somebody states that annuity rates have halved in the past decade. A decade ago, inflation was at 14 per cent. and annuity rates were at 15 per cent. I believe that my noble friend underestimates the impact of inflation on pensioner savings. For example, during the entire period of the previous government, inflation was at 6.6 per cent. Under the present Government it is now 2.4 per cent. A £1,000 annuity under an inflation rate of 6.6 per cent. would halve in a decade and be worth just over £500. But if inflation is at 2.4 to 2.5 per cent., that £1,000 annuity would be worth £800 over a decade. That is what matters to pensioners.

§ Lord Mackie of Benshie
My Lords, is the Minister aware that with his £100,000 a person must buy an annuity, thereby committing his capital? He would be far better to rely on interest rates and trust to his judgment?

§ Baroness Hollis of Heigham
My Lords, I accept that there is a dilemma for someone who is required to buy an annuity at a certain point in time. However, as the House will know, people are not required to turn a lump sum, or a pension pot, into an annuity until the age of 75. Therefore, they have between the ages of 65 and 75—in many cases 60 and 75—to decide when to turn the sum into an annuity. Given certain assumptions of growth—investment growth of, say, 7.5 per cent.—they can achieve a draw-down of income which will at least match the annuity rate without eating into the capital.

§ Baroness Turner of Camden
My Lords, does my noble friend agree that, while we all welcome a reduction in interest rates, there is a downside? Many older people have looked upon income from savings as a way of boosting inadequate pensions. Therefore, to tell such people that low inflation will provide them with some protection will not help them very much if they experience an immediate drop in their income, as is now the case. What will the Government do to encourage people to save in such circumstances, since, quite rightly, it is government policy to encourage people to save as much as possible?

§ Baroness Hollis of Heigham
My Lords, the noble Baroness is right. However, I recall that about a decade ago, when inflation was at its highest level, people were least inclined to save and to opt for the older fashioned virtue of thrift because they saw the value of their savings being eaten away. Without trying to underestimate the significance of the issue, it is wise to put it into context. On average, occupational pensions represent about one-fifth of the average pensioner's income. Approximately 90 per cent. of people who have an occupational pension receive a final salary funded scheme and therefore benefit from low inflation rates. 1795 The number of pensioners whose pension is a substantial part of their income, is money purchase funded and therefore vulnerable to interest rates is a small proportion of the population.

§ Lord Higgins
My Lords, I declare an interest as chairman of a company pension scheme, although not of the kind described in the Question. Is not the simple answer to the Question that interest rates will be less and the level will be lower? In particular, is it also not clear that, if retiring today, people are receiving substantially less than they expected a year ago? Therefore, is not the Green Paper about the government forecasts of people's pensions completely unrealistic? Is it not likely that such forecasts will he grossly misleading?

§ Baroness Hollis of Heigham
My Lords, we have no reason to think so. I agree that one cannot always read into the future what happened 15 years ago. However, on average, pensioners' incomes have more than kept pace with earnings. It is clear that when interest rates are high, which is usually a consequence of high inflation, overall, pensioners have lost out because there is a transfer of money from savers to borrowers; younger people buy houses and the like. Traditionally, pensioners do better in a low inflation/low interest rate economy. For future pensioners, their best hope and expectation of having a decent private pension as they reach retirement is to have secure, well-paid jobs in a sound economy based on investment. That is what we are determined to secure.

§ Lord Goodhart
My Lords, I accept much of what the Minister says, but does the noble Baroness agree that the real threat to the level of pensions came from the Government's decision last year to abolish the tax credit on the dividend income of pension funds?

§ Baroness Hollis of Heigham
My Lords, first, we believe that the best investment for a pension is a sound economy. We do not believe that that should depend on tax distortions in the pension system. Secondly, it is worth emphasising that the value of ACT when it was renewed was one-tenth of the difference between the best and the worst performing funds in any sector of the pensions industry. In other words, what matters is choosing your manager.

§ Baroness Gardner of Parkes
My Lords, is the Minister aware that many people become anxious as they approach the age limit of 75? Will the Government consider raising that limit so that those who are terrified of being forced to take an annuity may wait longer?

§ Baroness Hollis of Heigham
My Lords, I recognise the problem faced by those approaching the age of 75. The Government are considering that issue, but I cannot reassure the noble Baroness that any changes are in prospect.

§ Baroness Castle of Blackburn
Is it not a fact that the Government are actively discouraging final salary 1796 funded schemes and actively encouraging money purchase funded schemes, including those to be bound up in the stakeholder pension? Does this situation not mean, as the Observer points out, that you would have to accumulate life savings of some £200,000 to get a pension of £10,000 a year, not exactly an over-lavish sum? That is why the Observer calls for a complete rethinking of the basis of the Government's pensions policy.

§ Baroness Hollis of Heigham
My Lords, I do not accept that the Government are actively encouraging money purchase funded schemes in the sense that the number of schemes which are money-purchase compared with final salary have not changed, slightly to my surprise, during the past two or three years. The number remains the same, although there has been a growth in hybrid schemes; a mixture of schemes.
As my noble friend will he aware, the stakeholder scheme is a money purchase funded scheme because it tries to meet the needs of those people for whom final salary occupational schemes do not make good sense. Such people are in and out of work; they may have had part-time employment or broken employment; they may be women who have had caring responsibilities; or be self-employed. Such people may stay in a job only two or three years and it would be absurd to expect them to take up a final salary funded scheme. However, the Government's stakeholder scheme, compared with the usual money purchase or personal pension scheme, will have low charges, assured basic standards of competence and a good return, making it possible for people for whom no suitable pension product has been available to enjoy a comfortable old age.