§ 6.42 p.m.
§ Lord Fowler rose
to call attention to pension policy; and to move for Papers.
The noble Lord said: My Lords, like my noble friend Lord King I, too, noticed the use of "Baroness". I have to say that at least in the other place they did get my sex right, if nothing else.
This is an important debate on pensions. My first serious introduction to the world of pensions took place back in 1975 when, suddenly and surprisingly, I was appointed to the Shadow Cabinet of my noble friend Lady Thatcher. My first debate was the pensions Bill, introduced by Barbara Castle, who we particularly remember today. Although I did not always agree with her solutions, by any standards she was an outstanding fighter for better pensions. She will be very much missed.
A decade later, as Secretary of State for Social Services, I introduced my own pension changes. In the 1990s and to date I have served as a trustee on a number of pension funds. If there has been one constant feature of that time, basically it has been this: perhaps because of the complexity of the rules and regulations, and because for many retirement seems a distant prospect, pensions policy never receives the public attention that it deserves. In spite of the huge importance of pensions, too many people ignore the policy area altogether.
Perhaps it is because of that attitude that we have almost drifted, like sleepwalkers, into the biggest crisis for pensions this country has seen for half a century. Policy changes like the abolition of tax credits, that have had a profound effect on the position of future pensioners, but are difficult to summarise in a 30-second soundbite, have slipped through only partly noticed. Equally, changes that should be made, such as in my view changes to the terms of annuities, do not get the mass support that they deserve because people do not understand precisely how they can affect their lives.
All this has taken place in spite of the brave efforts of the financial and money pages press—to which I pay genuine tribute—to heighten public awareness in the area. So in this short debate I want to concentrate on occupational and personal pensions: the final salary scheme; the money purchase scheme. All too rarely have these matters been debated at Westminster. Obviously, state provision is vitally and vastly important. We had the opportunity to debate the State Pension Credit Bill a month or two ago. I supported that Bill. Indeed, I notice that my support has been called in aid by Ministers in the other place to such an extent that one veteran Labour Back-Bencher 349 protested that it was all very well knowing I was in favour of it, but he had spent his best years opposing my policies.
Nevertheless, I still believe that we should aim to reach maximum agreement on policies because, in terms of pensions, policies do not affect only the next three or four years, they affect the coming 30 to 40 years. The challenge we face today is, I believe, profound. The danger lights are all flashing very brightly indeed. Today we are in the position where people are not saving enough and where the personal savings rate has dipped alarmingly, back down to the levels of the 1930s. We are in a position where many final salary schemes are being closed to new members or closed altogether. These are not small companies. We are talking about Marks & Spencer, ICI, Safeway, Ernst & Young and many other like companies.
We are also in a position where contributions to money purchase schemes are insufficient to ensure a good future income, not least because the incentives to save are inadequate. In human terms, I believe that we have here the makings of a tragedy. As one commentator put it: in the future, people in retirement will live "lives of quiet desperation".
I think that there is another danger. My theory is that we are in danger of moving towards becoming two nations in terms of pensions. One nation will have inflation-proofed, final salary schemes, while the other nation will scrape along on inadequate pensions. That, again, would be a vast tragedy. My aim is not to set one nation against the other, but to see how we can move closer to a single nation where more and more people have the pensions and the savings to give themselves a good life in retirement.
The declared policy of both governments over the past 20 years has been to promote personal provision. That makes obvious sense so far as concerns the individual; it is sensible for him to make provision for his future and give himself some security in that future. But in fact it also makes sense for the Government, the Treasury and those in charge of the nation's finances. People are living longer. The ratio of the working population to the retired population is set to worsen, and the state retirement pension is a pay-as-you-go scheme. There is no invested fund on which to draw, just the ability and willingness of future taxpayers to pay for future pensions. From any government's point of view, therefore, it makes sense to encourage people to save.
That is one reason why the demise of so many final salary schemes is extremely serious for this country. In this respect we were once the envy, certainly of Europe and perhaps of the world, because we had such a wide range and prosperity in our final salary schemes. I do not claim that government policy alone has been responsible for so much decline. Obviously the financial reporting rule, FRS 17, has had an impact in this area, in particular the way in which it treats fluctuating investments as a market force. There is no question that it has had an impact. One needs only to talk to anyone who runs a pension scheme to know that that is the case. No one claims that FRS 17 has been helpful to occupational schemes.
350 Frankly, however, I rather doubt that, had it not been for the Government's action in abolishing tax credits paid to pension funds in the 1997 Budget, that the financial rule would have had quite the impact that it has had over the past 12 months to two years. Confidence has been affected and much more. The Chancellor had pledged himself to making no direct income tax increases, so instead he made a tax change which directly hit the future incomes of millions of pension savers. It sounded technical—doubtless that was an advantage in the Budget presentation—but its direct result was to reduce the income received by pension funds directly. It costs pension savers £5 billion a year. I emphasise that it is £5 billion a year and continuing; it is not a once-and-for-all saving.
Unlike pensions mis-selling—which we all deplored—there is no prospect of putting this matter right. It is a permanent change for the worse. The timing was such that it coincided not with a buoyant stock market, as the Chancellor apparently thought it would, but with a serious downturn in the market. It was a policy which affected not only final salary schemes but money purchase schemes such as the personal pension. Those funds were hit in exactly the same way.
To rub salt into the wounds of people with personal pensions, the Government also abolished the carry forward provision which enabled self-employed people who had not contributed to a pension to their full entitlement to carry forward six years' entitlement—to catch up, if you like, at the end of their working lives. I could never understand that particular change of policy. It seemed a petty and unnecessary act.
But worst of all, people with money purchase schemes were impacted not only by the reduction in income going into their fund but by a dramatic reduction in the pension that they could buy. Annuity rates have fallen dramatically. In the past 10 years, the income that a newly-retired person can receive for the same accumulated fund has halved. According to the Library note provided for me, in 1990 a £100,000 fund would buy for a 65-year old man, a 50 per cent widow's pension and a pension of £10,871. That figure is now in the region of £5,400.
Not surprisingly, people in this position argued that the rule that compelled them to take an annuity—a low annuity; the lowest annuity for decades—by the age of 75 was unjust. In précis, the argument they put is that, provided they can prevent themselves slipping hack on state support, they should not be so compelled. Regrettably, the Government have set their face against such change. They say that people can shop around for better annuities, but annuities they will have and nothing else.
The Minister for Pensions, Mr McCartney, rejected any move for reform on the ground that it was only a problem for the rich and the very wealthy. Let me say, in the strongest terms that I can, that this is not only an issue for the rich but for the hundreds of thousands of people who do not remotely consider themselves wealthy.
351 Government Ministers, who are also Members of Parliament, should be very careful about lecturing anyone on the subject of wealthy pensioners. The House of Commons and Ministerial Pension Scheme was already a generous scheme when I left the Commons last year. Since then, Members have voted for an accrual rate of one-fortieth in spite of the recommendation of the Senior Salaries Board. They have given themselves a full pension after 27 years as compared with the 40 years standard.
To give a comparison, an MP who retires on a full two-thirds pension will receive more than £30,000 a year. The pension will be index-linked and there will be a generous widow's pension—and a Minister will receive a pension additional to that. To match that kind of pension as an annuity if you have a money purchase scheme would need a fund of well over £500,000. I suggest that few of those pressing for change have that size of fund. I hope that Ministers will not use the argument that wealthy pensioners are the only ones who are impacted.
I hope that the Government will reconsider their policy. It is one of the few steps open to them to change the atmosphere surrounding saving for retirement. A move along the lines suggested in David Curry's Bill would be widely welcomed and enable us to move on to consider the many other important issues in regard to pensions—for instance, how to bring people who at present have no other pension but the state pension into having pensions of their own; how to improve the position of working women whose careers are interrupted by looking after their children. That is a point that I feel I should mention given my description on the list of speakers. I am sure that it is a point that Lady Fowler would wish to make.
Even raising the maximum retirement age to 70 could be considered. I gather that the idea of retiring at 70 is regarded as "political dynamite". It may perhaps be easier to say this in this House than down the Corridor, but many of us want to go on working until 70 and beyond. In my review of pensions in the 1980s I advocated a decade of flexible retirement between the ages of 60 and 70. We could go back to that.
There are big issues to face. In my view, the first priority is to re-establish a savings climate. Confidence has gone. Removing the rule on compulsory annuities would be a giant step towards changing that climate back again. It would act as an incentive, not a disincentive, to savers. We should recognise that we face a crisis in pensions. Government policy should be aimed at re-establishing confidence and providing incentives to save. My Lords, I beg to move for Papers.
§ 6.57 p.m.
§ Lord Lea of Crondall
My Lords, I welcome the debate but, to use the old phrase, it is all in the way you tell it. In his introduction, the noble Lord, Lord Fowler, put a somewhat one-sided take on many of the problems which undoubtedly face us all. For instance, retiring at 70 would be all very well if everyone had a 352 job until 70 and a magnificent pension at the end of it, but I suspect that some of the people who say these things in a glib and facile way think that it is another way of cutting the pension provision.
To say that this is all to do with government policy is, again, a gross distortion of the reality. It implies that it has nothing to do with rapacious directors who, for example, double their own pension—and it is not now peanuts, as I shall explain in a moment—and then cut the provision for everyone else.
I shall refer to the tax regime and make some comments on the lack of balance in the reporting of the difficulties in regard to final salary pensions and so on.
We need to revisit the structure of tax expenditures but a problem that has not yet been mentioned is that tax expenditures cannot be isolated from the growing inequality of original income in society. It is very difficult to lay on the pension system the ability to regress the inequalities of the original income system.
Original income inequality has been growing. We have now gone back to the immediate pre-Second World War distribution so far as concerns the top decile/bottom decile ratio of original income. I say the Second World War, but I fear that if things carry on as they are some people may say that the free market, world-globalised economy requires us to go back to the pre-First World War distribution of income. That would have devastating consequences for the subject we are discussing and make it more difficult to address the problem of poverty traps.
In speaking about the problems of the current taxation system, I draw on the work of Dr Ros Altmann. At present tax relief is over 1 per cent of GDP—around £13 billion a year. About half of that sum goes to the top 10 per cent of taxpayers. That amount of £6 billion is greater than the expenditure on means-tested benefits for the elderly and around one-third of the cost of state pensions. Using the tax system as a means of encouraging savings, as at present, is regressive, inefficient and illogical. It lacks transparency to those contributing to pensions and to those trying to evaluate or change the effects of government expenditure.
Far more public money is being spent on incentivising the highest income groups—they would probably save anyway—than on lower income groups who need the most encouragement to save. We need to improve the incentives to saving and to move away from the present tax system to incentivising savings. We should use the £13 billion currently spent on tax relief for pensions to finance an equal benefit or cash payment into the system. It could be based on monetary amounts of saving, with annual, or even lifetime, limits. Those government payments and saving limits would not be determined by income level or age. Everyone would receive the same financial incentive to save.
I can give noble Lords an example of how that works and how tax relief exacerbates wealth inequality. Let us take a 20 per cent taxpayer who puts in £12 a month for 30 years and a 40 per cent taxpayer who puts in £12 net a month for 30 years. For the 353 20 per cent taxpayer, the Government put in £3 a month on top; for the 40 per cent taxpayer the Government put in £8 a month on top. Over 30 years the 20 per cent taxpayer receives £1,080 and the 40 per cent taxpayer receives £2,880. So at 5 per cent growth for the 20 per cent taxpayer, the pension pot is £12,280, an increase of 184 per cent; and for the 40 per cent taxpayer, it is £16,373, an increase of 279 per cent.
I put it another way. If one takes a pension fund of £10,000, with £2,500 taken as a lump sum, the 20 per cent relief gives a £500 subsidy; the 40 per cent relief ultimately gives £2,500 subsidy. In other words, some formerly high income groups receive five times more subsidy from tax relief on pensions than low income groups.
I turn to the problem of final salary schemes. For an employee on average wages, an employer typically pays over £2,000 less a year into a DC scheme than a final salary scheme. An employee would need to pay an extra £40 a week to match the level of the employer contribution, but the DC scheme does not guarantee the same level of benefits on retirement.
In 1991 there were 5.6 million private sector employee members of final salary schemes. Projecting the decline forward, the figure has probably fallen to about 3.8 million. In most cases employers are replacing final salary schemes with defined contribution schemes, group personal pension schemes or stakeholder schemes. In a few instances such as Tesco, Nationwide and Pensions Trust different benefit approaches have been adopted. However, if current trends continue, the UK is heading towards a system in which DC dominates where the employer pays much less into the pension.
A large number of companies have said that final salary schemes have become too expensive to run. It is true that with a background of poor investment returns, increased longevity and low inflation pension costs have risen. But it must be remembered that such schemes have in the recent past been very cheap. Most employers running final salary schemes have used the surplus generated in their fund by investment returns to reduce or stop altogether the contributions they pay in. According to Inland Revenue statistics, between 1987–88 and 2000–01 the employer took contribution holidays of £18 billion. That means that employers saved around £4,000 per employee scheme member. It is striking how contribution holidays typically favour employers over employees. Overall just over 94 per cent of surplus was used either to reduce employers' contributions or give them a contribution holiday.
The shift away from defined benefit schemes is often talked about in the same breath as longevity. Because people are living longer it is becoming more expensive, and so on. But the reality is that simply changing the type of pension provision does nothing to address the problem. An employee in a typical DC scheme will still work for the same number of years as a colleague in a DB plan and hence will have the same time to contribute. All that happens when the switch to DC is made is that the responsibility for dealing with longevity and associated costs is shifted from employer to employee.
§ 7.6 p.m.
§ Lord Freeman
My Lords, the House will agree that this is an important subject. I congratulate my noble friend Lord Fowler on raising the issue. I pay tribute also to the innovation which was entirely his responsibility in the early and mid- 1980s — the introduction of what were then called portable pensions. We now know them as personal pensions. Despite the problems of mis-selling—those are nothing to do with the concept—they have proved of great value in an economy where there is much greater mobility of the labour market. I do not wish to repeat any of the points made by my noble friend Lord Fowler but to deal with some of the practical issues which the Government and society need to address in order to increase our savings for retirement. I declare an interest as chairman of the trustees of a number of pension funds in industry.
Perhaps I may make some points to strengthen the powerful argument deployed by the noble Lord, Lord Fowler. Markets are changing. It may be that the cult of the equity that we knew for almost 30 years from the early 1970s may be drawing to a close and that the real rate of return available for those who were saving through a pension fund—their own or a company's will fall in real terms which have nothing to do with inflation. I am struck by the fact that if the real rate of return on equity investment falls from the 7 per cent annual compounded rate which existed for 30 years up to the year 2000 to, let us say, 4.5 per cent, a man aged 30 contributing 10 per cent of his salary would receive only a quarter of the final salary in real terms on retirement at 60. So if one contributes 20 per cent and is taking only a personal pension with perhaps a modest employer contribution, 20 per cent is a very sizeable chunk of disposable income. A 20 per cent contribution rate would get one to something like half one's final salary on retirement.
Those are worrying figures. My noble friend Lord Fowler and the noble Lord, Lord Lea, referred to the fact that defined benefit schemes may be on the wane and defined contribution schemes are being more widely used by industry. The gross contribution rate by the employer and employee on the defined contribution schemes is by no means as significant as it is for defined benefit schemes—final salary schemes—and there is, therefore, a reduction in the volume of saving. That is also worrying.
It is sometimes suggested by those who have studied the problem that the answer is greater compulsion for us all to save over and above national insurance contributions. I am not sure that that principle would command very much support on these Benches partly because it would be bound to be redistributive and it is better that that should be done through the tax system; and it is unclear how much the state would pick up in terms of obligation for those who cannot or would not pay a much higher compulsory level of saving. As my noble friend Lord Fowler said, the answer lies in encouragement: we should try to encourage private sector schemes.
355 I shall deal briefly with four aspects. The first is the confidence that savers have in our system; secondly, the need for simplification of pension provision, which is one of the most regulated aspects of our lives; thirdly, improved marketing; and, finally, some innovation. On the subject of confidence, I should mention the Myners report. Paul Myners wrote the Review of Institutional Investment, which is an excellent report. It was accepted by the Government last year in full. I believe that some aspects of that report have been submitted for consultation. In her response, perhaps the Minister would be kind enough to indicate the sort of timetable that we could expect following the end of the consultation process on legislative change, the responsibility of trustees, the independence of the custodian, and the activism by investment managers—and, indeed, trustees—in dealing with their investments and their responsibilities for them. Can the Minster also say when we are likely to receive a conclusion, and how the Government intend to legislate?
Secondly, on the subject of simplicity, noble Lords will recall that Mr Alan Pickering was appointed to study the simplification of regulation. I believe that he is due to report back in the summer, but it would be helpful if the Minister could confirm that that target date still applies. Can the Minister also confirm that the Pickering review will march alongside—and, indeed, take note of—the conclusions of the second Inland Revenue review that is also under way?
The calculation of the guaranteed minimum pension, and the annual assessment of the minimum funding requirement, are, I believe, outdated. I believe that the Government have indicated that the minimum funding requirement administrative burden will shortly end. Both have done their job; and, in my judgment, should go. There are requirements for an independent financial adviser in most pension decisions, including some very simple stakeholder pension provision. For example, if a company wishes to make a contribution to a stakeholder pension for an employee without the latter having to make a contribution in, say, the building trade industry, that company cannot explain the significance and benefit of that contribution without an independent financial adviser being brought in. That is another example where we need to reconsider the need for an independent financial adviser in all circumstances.
Thirdly, I move on to marketing. I very much welcome the Secretary of State's interest in encouraging competition in the annuity market, and the provision of simpler pension products. We await the report of the Sandler committee with great interest. The reported interest of the Secretary of State in trying to emulate the former PEPS, and now the ISA concept, for pension provision, both of which are very simple mechanisms by which people can save a modest amount each week or month, is excellent. I shall be interested to hear the Minister's observation—if not today, then perhaps in writing—as to whether the Government would reconsider the proposal that all those who are in pension schemes should receive a 356 reminder when they reach the ages of 30 and 40 of the prospective pension provision that they have so far earned.
Finally, on the question of innovation, I believe that a little lateral thinking is required in terms of the tax regime. Most of us accept that changes must, or should be, made—at least on the basis of tax neutrality with no loss to the Exchequer. However, a little lateral thinking would be welcomed in terms of restricting the relief on ingoing contributions—perhaps from the marginal rate to the standard rate for the higher rate taxpayer—in return for greater flexibility of annuity payments. I am speaking personally here, and obviously not for my Front Bench. I very much look forward to hearing the Minister's response.
§ 7.14 p.m.
§ Lord Oakeshott of Seagrove Bay
My Lords, I declare my professional interest, as noted in the register, as an investment manager for pension funds for the past 26 years. I start with a direct question to the Government about the financial crisis facing pension funds that the noble Lord, Lord Fowler, described so clearly in his opening remarks. In March, I tabled two simple Questions for Written Answer. The first asked Her Majesty's Government:How much income pension funds in the United Kingdom have lost through the abolition of dividend tax credits on their holdings of ordinary and preference shares in each of the financial years 1997–98, 1998–99, 1999–2000 and 2000–01?".The second asked:What has been the outturn of the estimated year-by-year revenue effects of the July 1997 Budget tax measures to abolish payable tax credits for pension schemes and United Kingdom companies from Budget day and changes for everyone else from 6 April 1999, as set out in Table 2:2 on page 40 of HC 85 (1997–98)?".The Written Answer that I received was a classic of its kind:The Government's package of corporation tax reforms included measures to boost corporate investment by removing tax distortions. The withdrawal of payable tax credits on dividends was just one part of these measures. Pension funds and others will share in the long-term benefits from these changes to corporation tax. The overall effects of these changes on pension funds will depend on a variety of factors, including the type of scheme paying the pension; the take-up of private pensions; the level of future pension contributions; pension schemes' asset allocation and investment policies; and investment returns generally".—[Official Report, 19/3/02; cols. WA 131–2.]So-called "Answers" like the latter are an insult to anyone's intelligence. If an idle undergraduate had served them up to the Minister during her distinguished academic career, I believe he would have got pretty short shrift. When the Chancellor of the Exchequer has given estimates for the amount of revenue likely to be raised year by year, rising from £2.3 billion to £5.4 billion, in the official statement accompanying a Budget, proper scrutiny and accountability demand that the Treasury now comes clean with the facts. In 1997, it forecast how much money a major increase in taxation would bring in; it is now 2002, and we are entitled to know whether the 357 forecast was right or wrong. I trust that the Minister will use her skills of persuasion to squeeze a proper Answer out of the Treasury in the near future.
Until the year 2000, the Chancellor got away with his raid on pension funds because the markets were riding high and funds were still enjoying the cushion of the surpluses build up in the prosperous 1980s and 1990s. Indeed, he put it very well himself in the 1997 Budget speech in defending the abolition of tax credits when he said:Many pension funds are in substantial surplus and at present many companies are enjoying pension holidays".—[Official Report, Commons, 2/7/97; col. 306.]How the world has changed.
The period 1980–2000 was a golden age for UK equities, with returns averaging 12 per cent a year real, above inflation—the only 20-year period on record since reliable statistics began in 1870. But now we are in the lean years. It looks quite possible that 2002 will provide a third consecutive year of negative real returns on UK equities for the first time in 40 years, now that the surpluses from the fat years have all been used up. The change in accounting standards, to which other noble Lords referred, with the adoption of FRS17 (so that companies have to show the effect of changing pension fund surpluses or deficits on their balance sheet each year), is not in itself the problem: it merely highlights it.
How should society adjust generally to the dramatic increases in life expectancy that we are witnessing throughout the western world? Last week, some noble Lords may have noticed that the Guardian reported an amazing statistic; namely, that a baby girl born in France on that particular day had a 50:50 chance of living to the age of 100. The other key statistic in that paper by scientists at Cambridge and Rostock was that life expectancy in most developed countries has risen in a straight line by one year in every four—that is, three months of life expectancy for every year going by—over the past century and a half, ever since a study showed an average life expectancy of 45 for Swedish women in 1840. Governments, on received actuarial wisdom, keep believing that this trend is about to change. Well, it might. However, on this evidence that is not the way to bet.
It seems to me that no political party has begun to come to terms with this change in life expectancy. We on these Benches officially favour a flexible decade of retirement, as mentioned earlier by the noble Lord, Lord Fowler, rather than a fixed retirement age—that is a start. But if these trends in life expectancy continue, there is no way that people will be able to save enough for their old age, or, indeed, that society will be able to care for them if they are in poverty or need long-term residential care, if we expect to be able to spend 30 or 40 years on average in paid work and then live on a pension for almost the same time again. The numbers just do not add up.
Speaking for myself, I make three suggestions that I hope may help solve the pensions problem in the longer term. First, and most simply, 75 is now far too early an age for people to be forced to turn their pension money into a fixed annuity.
358 Secondly, to make some amends for the money grabbed from pension funds by the abolition of the dividend tax credit, standard rate taxpayers should be made eligible for higher rate tax relief on their contributions to approved pension schemes. We must encourage people on average and below average incomes to save much more. Why should not all employees receive the same tax break for their hard-earned pension contributions as higher rate taxpayers whose needs are less?
Thirdly, all compulsory retirement ages should be abolished. A person of 65 or 70 today may well he in far better health than a typical 55 year-old a generation ago. Fixed retirement ages are nonsense. Why are people not allowed to start drawing the pension that they have earned while continuing to work for the same company, perhaps in a less senior or demanding job, where they can still make a useful contribution?
Twenty-six years ago, when I was about to start my career in pension fund investment, I went for an interview with the chairman of Warburgs. I thought he had a lively mind and asked penetrating questions, and I got the job. He was then 68, so I was glad that he had not been compulsorily retired. Last year, I joined the Select Committee on Economic Affairs and saw a familiar face. The noble Lord, Lord Roll of Ipsden—who I am sorry to see is not in his place— is now 94, and is still at least one jump ahead of the rest of us. I hope that he will not mind my using him as the supreme but not the only example in this House, with an average age of 69, in terms of the invaluable contribution to our society of people above retirement age. How much poorer we are both financially and in every other way if we bind ourselves in the straitjacket of compulsory retirement at fixed age limits.
§ 7.21 p.m.
§ Lord Desai
My Lords, I have no practical experience of anything. Therefore, I shall stick to the high ground of theory in relation to pensions—except in so far as I look forward to my pension in a couple of years' time; and I hope that my pension fund does not renege on the agreement.
As was pointed out in the excellent introduction by the noble Lord, Lord Fowler, and in speeches thereafter, we face the impossible problem of guaranteeing the next generation of people who will retire the sort of pension income that we shall enjoy. There is no way to hide the fact that they will not have it as good as we do. We are the last lucky generation. We need leadership to be able to explain to people that the pension contract was conceived at a time when people worked for many years and lived for only a few years after retiring, so as a way of rearranging one's lifetime income across a consumption stream which lasted beyond one's working years it was a doddle. People lived about six years beyond retirement age when Beveridge introduced his scheme.
Now, we have the much bigger problem of financing a longer retirement from a shorter working span—because of higher education needs 359 and so on—but also in most cases from interrupted rather than continuous employment, especially at the lower end of the scale.
The numbers just do not add up, no matter whether the sums are done by government or by business. Therefore, we all have the task of explaining to people in words of one syllable, first, that they will have to save more and that the state will not bail them out—there is no way in which the state can bail them out; and, secondly, that they will have to work many more years, thus shortening their retirement age—they may be able to work half of the time or part-time. Thirdly, we must explain that almost any long-term promise that is made to them will not be fulfilled. What we have learnt over the past 30 years is that the kind of pension contracts that firms thought they could offer are not sustainable. That is the story of Equitable Life: the company offered a contract that was not sustainable. What seemed rational when the equity markets were very high and rates of return were either 7 or 12 per cent, depending on the number of decades, is no longer possible.
It is not that we are not going to recover easily; but even if we do recover, all we can say is that life in 10 or 20 years' time will not be as it is now. Therefore, when someone offers a 30-year or 35-year piece of paper, it will need to be examined with great care. The same is true of endowment mortgages.
One reason for this, apart from longevity, is low inflation. We worried so much about high inflation that we did not think of the bigger problem that would be brought about by low inflation. To some extent, while the real rates of return in the economy at large have not gone down that much, in terms of financial portfolios things have changed remarkably in equities and bonds.
To some extent, as has been said in debates on globalisation, we are in effect going back to how things were in the 19th century. In those days, people saved in consols, which yielded some 2.5 per cent. We have returned to that world, and we must revive Victorian savings habits—or, at the other end of the scale, Victorian habits of poverty. I am sorry to put it so bluntly, but I do not know how we are going to manage. I have the occasional sleepless night over the fact that no one has explained these matters.
We are far too caught up in institutional details—decisions about types of schemes or what the Government did or did not do. This is not only a British problem; it is a problem for the entire developed world. We have made promises. Our children will see that their parents had a good time and will want the same. We just have to tell them that it is too late; it will not happen.
There are two possible saving graces. First, it is to be hoped that our money can be invested in the third world, where there is a young and growing population and a skilled labour force. If we can match our capital with third world labour, we can achieve a slightly higher rate of return than we can achieve at home. It is not foolproof, but perhaps in the long run that is the 360 only strategy for the developed world. Secondly, the cheap manufactured goods that have arisen as a result of globalisation are giving us a higher real income than we should otherwise have had.
So it is not unreasonable to expect the younger generation to save more. We have been through a period of hyper-inflation. They will not go through such a period. That is one reasonable long-term guarantee that one can give—unless the globalisation process is massively disrupted. We must engage in a partnership with the third world and sustain a free trade regime. But we must also tell the next generation—and leadership is needed to say this—that the only solution to their problems is themselves. No one else will help them.
§ 7.28 p.m.
§ Baroness Greengross
My Lords, this is a timely and important debate. I thank the noble Lord, Lord Fowler, for introducing it. Perhaps I may add my tribute to Lady Castle. To the very end of her life, she was the most doughty campaigner—and in particular for the state pension. Her legacy must be that that remains the bedrock of pension provision, because so many people believe in it.
Perhaps I may comment briefly on the acres of newspaper coverage of the crisis and the dire warnings that we have all read. They are there. We are dealing with the implications of increased longevity—eloquently referred to by the noble Lord, Lord Oakeshott. I want to add two points.
In this country, by 2026, we there will be more people of 65 and over than there will be children under 16. With regard to people reaching their 100th birthday, at present there are 7,000; by then, there will probably be 36,000. If the Queen continues to send telegrams to congratulate anyone who reached his or her 100th birthday, she will have to send 100 every day. That illustrates what is happening. This is something to celebrate, not just something to be desperately upset about. Most of us would like to live for as long as we can be healthy and active. The big change is that most of our older population can do so. That is excellent news, but I agree with the noble Lord, Lord Desai, and with everyone else who has stressed that we have to plan how we are going to cope with this huge change.
That is our challenge. We have to plan for the longer term, which is usually difficult for governments because everyone is preoccupied with the next five years. There have been some recent examples of long-term planning, such as the DTI's Foresight Panel on Ageing which looked a long way ahead. That is an example of what needs to be done more.
The Government have a good record of looking at the needs of today's older people. They are beginning to do quite a lot. Many of today's older people are far better off through increased state pension, benefits and additional resources poured into the NHS, from which they will benefit without having to contribute if they do not pay national insurance. We have only just sent the State Pension Credit Bill to another place. There is a lot of concern about its cost and complexity, but it is 361 an attempt to meet the twin aims of rewarding thrift and providing a higher minimum income. Despite the complexity, the Minister and the Government have not been given the credit for the reform that it represents, getting rid of the assumed income calculation, capital limits and the feelings often eloquently expressed by older people to me and to many others wondering why they bothered to save because they would have done better had they spent all their money.
This Government, in line with all their recent predecessors, have tried to target help where it is needed most. I hope that the reforms that have been made will mean that we now move away from the language of means-testing to that of entitlement. That is very important. That is where the new Pension Service must work.
I note that targeting has been somewhat diluted by the amount of money now spent on the winter fuel payments and free TV licences. Wealthier pensioners benefit from those payments, too. Raising the tax allowances for pensioners benefits only those who are wealthier, because the vast majority of older people still do not pay tax.
It is wrong to think that the state pension was ever very generous. Even before the link with earnings was broken, the state pension was not adequate on its own. I am rather disappointed that the Government have not found some compromise way of meeting the legitimate concerns of British pensioners who live abroad where the state pension is not uprated. It would be a shame if the Government were forced to do that by the recent High Court case rather than because they felt that it was correct to do so and would be discriminatory not to. Can the Minister tell us any more about that?
It would be wise if the Government would make public what they consider to be a reasonable income for older people. Many organisations, including Age Concern, which I represent, believe that it would be helpful to give people an indication of what they can expect, what they need to save and how the future for them and their longevity can be better planned. Knowing what a reasonable income for older people should be does not mean that the Government have to provide all that income. It would be prohibitively expensive to do so and would act as an even greater disincentive to saving for retirement. People need to know well in advance what they need to do.
There is a great deal of misunderstanding about pensions. We need a massive programme of education to explain what pensions are and what they are not and cannot be. We know that they are a form of saving and deferred pay to live on after paid work ceases, but pensions seem unnecessarily complicated and a lot of people are very confused by them—including, very often, the so-called experts.
I share the concern expressed by the noble Lords, Lord Fowler, Lord Oakeshott and Lord Freeman, about annuity rates and their fears for the future of the private pensions sector. I am very worried about the lack of flexibility on when someone can draw part of 362 their pension. The Government have been promising for a long time to look at that and we are still waiting to hear about it. We need flexibility on how and when we retire and on taking part of our pension without being penalised for doing so.
People are understandably and justifiably anxious about the switch to defined contribution schemes. I share those feelings. The good thing about such schemes is that they will encourage greater flexibility in the labour market, as we increasingly move towards a situation in which more people leave one job, are out of work for a while and then go back into work. However, that is only one good thing and there are many other reasons for anxiety.
The Government have added to that complexity—inadvertently, I am sure. That is a shame. We need simplification. We have to rethink fundamental issues such as the age of retirement, which should be higher, and the age until which people can work. Age discrimination legislation will make it undeniably certain that we cannot continue to have a fixed age at which people stop work. We shall have to look at competence testing and not defining people by their age. We need to look at the age at which people can afford to retire or be allowed to take pension benefits in a really flexible way. We also need to encourage community interest and volunteering, not only paid additional work.
We all know that the answers are very difficult, but they are essential. We need a blueprint for longer-term action. It is essential that we get that in time for us to be able to celebrate increased longevity instead of thinking of it as a disaster.
§ 7.37 p.m.
§ Lord Varley
My Lords, I am grateful to the noble Lord, Lord Fowler, For introducing the debate. Everyone who has spoken so far is an expert in their field. The noble Lord, Lord Fowler, is a former Secretary of State. The noble Lord, Lord Freeman, still has day-to-day experience in the pensions industry and the noble Lord, Lord Oakeshott, has vast experience of occupational pension schemes as a fund manager and investment manager.
I am not sure that I subscribe to the use of the word "crisis" by the noble Lord, Lord Fowler. I do not think that the situation is necessarily yet irrevocable. Things can be put right, but there is certainly cause for concern at the present situation. Hardly a day goes by without some comment in the newspapers about pension policy. The controversy in the main is about the occupational pension scheme policy. There is speculation about whether more companies will abandon their final salary schemes for an inferior alternative and about whether whatever replaces final salary schemes will provide adequate pensions and whether the pensions in payment will hold their value in the years ahead.
There is a great deal of solid evidence, already referred to by the noble Lords, Lord Fowler and Lord Oakeshott, that people are not saving enough to ensure adequate resources when they reach retirement 363 age. The savings ratio—the proportion of household income that we save as a nation—has gone down to a paltry 3.75 per cent and is now at the lowest level on record. People are spending practically up to their limit. If the debt on credit cards is anything to go by, they are going over their limits. People are not attaching due seriousness to the need to make provision.
If the current strain on final salary occupational pension schemes is not relieved, if more schemes are withdrawn, and if action is not taken now, the problem of inadequate income in old age, to which the noble Baroness, Lady Greengross, referred, could place an intolerable burden on the state. However, it is wholly unfair to place the blame on the Government for the fact that companies are abandoning final salary schemes and opting for inferior schemes. The most significant factor putting final salary schemes under strain is the collapse in the value of pension fund investments. That is by far the largest factor.
Two and a half years ago, the Financial Times index of 100 leading companies stood at almost 7,000 points. Today, the FTSE is just over 5,200. So, in a relatively short time, 35 per cent—more than one third—of the value of equities in pension funds has been wiped out. As the House knows, pension funds invest heavily in equities. Between 1992 and 2000, there was an unprecedented growth in stock market valuations. In fact, the noble Lord, Lord Oakeshott, produced an even better figure to demonstrate how successful equities had been in an earlier period. Only five years ago, many occupational pension schemes were not only well funded, but taking a contribution holiday—an employer's contribution holiday or an employee's contribution holiday, and in some cases both. If the stock market improves as the global recession is overcome—and there are some signs, I hope, that that is happening—the value of occupational pension fund investments will improve also.
Some noble Lords, including the noble Lords, Lord Fowler, Lord Freeman and Lord Oakeshott, have harked back to the changes that the Chancellor made in his first Budget to advance corporation tax, or tax credits, as they are called, which took £5 billion annually out of pension funds. At the time, however, I did not hear great howls of anguish coming from pension fund managers or pension fund trustees—
§ Lord Varley
I did not, my Lords. There was a hit of a row, but nothing like there is now. There was nothing like we see now in the press, where someone called Wheatcroft regularly writes about these issues. She was not writing at the time about these issues in the pages of The Times. However, I am ready to concede that there has been a significant deterioration of the stock market, and that the tax concessions which the pension funds used to receive but no longer receive have added to the problem. The latter, however, has had a less significant effect than has the reduction in equity values. But I had better move on so that I can make my main point.
364 There is one aspect of pension policy that is bizarre and unfathomable to me—the application of Inland Revenue limits to pension increases paid under some annuity policies. During the 1980s and early 1990s, the trustees of many medium-size occupational pension schemes purchased annuities on behalf of their members when they retired. Some of the contracts with the annuity providers—mainly the large insurance companies such as Norwich Union, Prudential, Legal and General, Clerical Medical and all the others—stipulated that there would be a 5 per cent annual up-rating of the annuity paid directly to the pensioner annuitant.
As the House will recall, in the 1980s and 1990s, the year-on-year inflation rate often greatly exceeded 5 per cent. Under this Government's financial management, aided by the Bank of England Monetary Policy Committee, inflation is now well under control. However, the Inland Revenue limits mean that current annuities are capped at 3 per cent. A great deal of the income generated by the original lump-sum purchase of the annuity which the insurance company would have invested in gilt-edged securities is locked up and retained by the insurance companies and may never be released for the benefit of the annuitant or the Treasury.
I ask my noble friend the Minister whether that will be looked at seriously. We have a situation in which, because of that cap, the Treasury voluntarily forgoes revenue—which I estimate amounts to millions of pounds—that it could have. If the cap were lifted, depending on the marginal tax rates, up to 40 per cent of the money would go to the Treasury. The Chief Secretary to the Treasury has acknowledged that this is a problem. I wrote to him some time ago and he pointed out that there would be a review. I hope that the review will consider the matter seriously, and I hope that my noble friend, in her reply, will give us some hope about it.
The debate on pension policy will run and run. As people live longer, the demands on pension funds, both private funds and public funds, will become much more burdensome. I wish my noble friend the Minister and all her colleagues in government the very best in putting this issue right as quickly as possible.
§ 7.45 p.m.
§ Baroness Turner of Camden
My Lords, I thank the noble Lord, Lord Fowler, for introducing this timely debate on pensions policy. It gives me the opportunity to pay a personal tribute to my noble friend Lady Castle of Blackburn. Had she still been with us, I am sure that she would have made her usual robust contribution.
It is very rare that even talented politicians—and my noble friend was certainly that—can be said to have materially changed the lives of fellow citizens, and to have done so for the better. Yet she did so in many ways, not least because of the pensions plan which she was responsible for introducing in the mid-1970s. The two-tier system—with SERPS, which was a major innovation—truly did change lives for many people. It 365 really was a partnership between good private and good public provision. Had it been honoured and fully implemented, the commitment to increasing the basic state pension in line with the earnings index, instead of simply the retail prices index, taken together with the original modified SERPS, would have ensured that there would today be very few poor retired wage earners. I supported Lady Castle in the pleas that she repeatedly made for a return to the philosophy that underpinned that innovatory plan of hers.
The last time Lady Castle spoke in this House it was on the State Pension Credit Bill. She was rightly critical of it, since she saw that it would ultimately mean that about 50 per cent of future pensioners would attain some kind of basic income only via means-testing. She was opposed to that, believing that as well as being expensive to administer, means-testing inevitably entailed low take-up. To her, means-testing was an affront to the dignity of older people.
However, another aspect to the Castle plan had a very considerable impact. It was possible to contract out of SERPS only if a better occupational alternative was available. That of course meant a scheme offering defined benefits—a final salary scheme. I well recall, as I was a union official at the time, that that led to a growth in final salary schemes, often taking the place of existing money-purchase plans.
The occupational pensions movement has been responsible for one of the great successes of the past century. As a result, many people have been able to retire in comparative comfort. That does not mean, as the Government sometimes assert, that there are masses of rich pensioners—only 5 per cent of the pensioner community pays income tax at the higher rate—but at least a modest level of comfort has been secured. Incidentally, what level do the Government regard as wealth for a pensioner? The noble Lord, Lord Fowler, made that point. I ask the question because, although the tax system provides for modest age allowances, the taper at which entitlement to age allowances is lost begins at £17,900 a year, which is not exactly wealth. If one earns a little bit more, entitlement is lost entirely. There is sometimes an assumption that life is cheaper for a pensioner than for the working population. I say to my noble friends on the Front Bench—they may find this out for themselves eventually, as I have already—that that is a mistaken assumption.
We now have another pensions crisis. As we have heard, large companies are increasingly turning away from providing adequate occupational pensions for employees. It is clear that state provision will not be an acceptable or viable alternative. It is also government policy to reduce the state commitment to funding pensions and to move as many as possible onto the private sector. Hence stakeholder pensions where individuals take responsibility for themselves and rely on the market. Take-up so far has been disappointing. It is clear also that many people have no idea just how much they are going to have to put away to be sure of a reasonable, indeed, a liveable, income in retirement. It is estimated that a pension pot of over £200,000—an 366 enormous figure to most people—would be needed in order to produce a modest income of around £10,000 per annum.
There is no compulsion for people to pay into such schemes and an employer does not have to pay either, simply to allow a stakeholder provider access to his workforce. In the meantime, as we have heard this evening, many large firms such as BT, Sainsbury's, Whitbread, ICI and Lloyds TSB are shutting down their defined benefit schemes and offering a much poorer alternative in the shape of a money purchase scheme. Shortfalls in pension funds have followed "contribution holidays" employers gave themselves during the stock market boom. There is the falling stock market. There is the withdrawal of relief from advance corporation tax, which no doubt added substantially to the Treasury's coffers but further undermined middle level pension schemes.
The new accounting mechanism known as the Financial Reporting Standard 17, already referred to by the noble Lord, Lord Fowler, is claimed by many companies to be a factor in their decision to move away from final salary schemes. There is no doubt at all that the moves away from defined benefit schemes have set alarm bells ringing among employees and their unions. My own union, MSF, now Amicus, has called for government intervention to prevent what many employees regard as a kind of theft.
Certainly there is a need for a further review of pension policy. I believe it to be unrealistic to expect people to take on much more added responsibility for pension provision individually, particularly at a young age when it is most advantageous for them to do so. They are certainly unlikely in my view to do so voluntarily. The stakeholder experience would appear to demonstrate that. Young people endeavouring to get a footing on the housing ladder in large towns are unlikely to be willing to set aside money for a retirement in 40 years' time.
Now financial advisers are advising their clients to get into SERPS. Perhaps the time may come when we shall look again with favour on the scheme introduced more than 25 years ago by the remarkable lady to whom I have sought to pay tribute this afternoon.
§ 7.52 p.m.
§ Baroness Barker
My Lords, I declare an interest as I work for Age Concern England. I, too, pay tribute to Lady Castle. In the short time that I have been a Member of this House I have witnessed her in the Chamber looking physically frail but standing up and laying into all before her, specifically those directly before her, with passion and vigour on the subject of pensions. Some in the House may have dismissed her views as being out of time. However, it is worth noting that during the previous Parliament pensioners were the only group to prise open the coffers of the Treasury. It was due to the leadership of Lady Castle that they were able to do that. Many of us did not agree with her politically but I think that all of us admired the fire and the passion with which she pursued the subject of pensions, seeing them as a key to overcoming poverty.
367 When pensions make headline news day after day and are as likely to feature on the "Today" programme as "Moneybox", something is badly wrong. It is therefore timely that we should have this debate so forcefully introduced by the noble Lord, Lord Fowler. It is a welcome opportunity to talk about pension policy outwith specific government proposals. As noble Lords have mentioned, across all industrialised nations the dependency ratio of pensioners to people of working age is increasingly fuelling a trend towards private and pre-funded pensions. But here and in the USA the private sector seems to be increasingly problematic. In the climate of today's headlines it is tempting to focus solely on the subject of occupational pensions but I believe that that would be wrong. In order to avoid the position where government provision is always seen as the thing to which people run in times of crisis, we need to look at the way in which public provision sits alongside private provision.
The noble Lord, Lord Fowler, mentioned the key word "confidence" and referred to the lack of confidence in the pensions industry. I believe that it is right to say that since 1979 some of the lack of confidence has resulted from the ways in which the state provision has been administered. I do not wish in the presence of so many eminent people to go over the details of the changes that were made to SERPS or the mis-selling of the 1980s or, indeed, the changes introduced in the Social Security Act 1986, but it is clear that the changes which those policies brought about—a total of £32 billion was taken off the value of public pensions—have been, and will continue to be, a significant factor as regards confidence in the whole of the pensions industry. I do not wish to dwell in detail on computer systems and the administration of benefit but it is a key factor that we cannot ignore.
In 1997 pensioners believed that things could only get better. Yet despite that, the average value of GDP spent on pensioners fell from 6.22 per cent in 1996–97 to 6.0 per cent in 2001–02. Since 1997 the number of pensioners missing out on benefits has increased. The latest take-up figures show that up to 700,000 pensioners are not receiving MIG to which they are entitled. Some £750 million worth of benefit is unclaimed by pensioners. Despite that the Government continue to favour an approach which is increasingly dependent on means testing. When the pension credit is fully implemented, between 50 and 70 per cent of all pensioners will be subject to means testing. The Select Committee questioned whether in that circumstance the state second pension will have a viable future.
As the noble Baroness, Lady Turner, noted, stakeholder pensions—the Government's fall-back position—have been taken up only slowly. The reasons for the slow take-up are not yet clear but concerns that such policies may, by the time they mature, have little value to the individual coupled with reluctance of advisers still reeling from accusations of misselling to recommend them must be contributory factors. But what is more worrying is the failure of the 368 individual pension accounts scheme. That was enthusiastically promoted as a means to transform pension provision and boost private pension savings, but only one company offered the product. Since they were launched alongside stakeholder pensions, hardly any have been sold. Overall, current government policy on state provision is starting to look a little piecemeal, short term and administratively over complex.
I do not wish to spend a great deal of time talking about the change from defined benefit to defined contribution schemes. Many noble Lords have done that already in the debate. However, I simply wish to say to those companies which are rushing to follow suit that they would do well to look to the USA where similar moves have damaged employee relationships and companies which are suffering skill shortages have experienced the transfer of those skills away from their companies to those in which salaries are paid at a higher level to offset the lack of pension income. I also wonder to what extent we shall begin in future in this country to see increased redundancy levels among older employees with a knock-on effect to the public purse in unemployment benefits. Companies with skill shortages should think again about that matter.
One solution to the problem of increasing dependency ratios which many speakers have mentioned is an increase in the state retirement age. I remind noble Lords who may have seen the relevant article that Professor Alan Walker made the forceful point in Monday's edition of the Guardian that increasing the state retirement age in itself is not an answer; it has to be accompanied by anti-age discrimination legislation in employment or unemployment benefits currently paid to people aged 50 to 60 get shifted up a generation. Do the Government realise that there is a case for implementing the EU directive on age discrimination in employment before the deadline of 2006?
If the overall outlook on pensions is alarming, and according to the National Association of Pension Funds it is, there is one group of people who should be doubly alarmed; that is, women and the noble Lord, Lord Fowler. Evidence from the SAGE Unit at the LSE shows that inequalities in the pension system built in at the time of Beveridge remain and are compounded. The Beveridge report was founded on the assumption that a woman would qualify for her pension via her husband's contributions. Research published last week by my honourable friend in another place, Mr Steve Webb, shows graphically the damaging effect of that assumption on women today.
Before 1977, women could opt to pay a reduced rate of NI. Many did so without being aware that they would be foregoing their future pension rights, and are only now learning that they have a pension entitlement of just a few pence. Some were advised that they would receive 60 per cent of their husband's pension, but until their husband reaches 65, some receive nothing. In 1989, changes in the law reduced the NI bill for low earners. It was then advisable for some to opt back into the full rate scheme. Many appear not to have been advised and have ended up paying more national 369 insurance contributions on the reduced rate than their colleagues who pay the full rate for a full state pension. All now face retirement on a very low income—some to a dramatic extent.
Women are the most prevalent among the lower paid. In a lifetime, they can expect to earn more than £250,000 less than their male counterparts. They are likely to have an occupational pension. The state second pension assumes a working contribution of 49 years, which very few women have. Stakeholder pensions are supposed to bring flexibility but stakeholder pensions depend on fund performance.
One of the key areas, as many noble Lords have said, is the urgent need to reform annuities. Dr Oonagh McDonald of the Retirement Income Reform Campaign makes the important point that while defined benefit schemes do not discriminate on the basis of gender, defined contribution schemes do. Defined contribution schemes compel members to purchase annuities, which discriminate on the grounds of gender more than any other factor. Despite the fact that life expectancy of men and women is growing closer—the gap is now less than four years—most schemes still make payments to women that are 20 per cent lower than those to men.
Life patterns are changing and there is now a growing case for a thorough overhaul of pensions policy on the ground of gender. Otherwise, as the noble Lord, Lord Fowler, said, women will face a great deal of poverty in future.
In the short time remaining, I wish to commend to the Government two courses of action. First, in order to bring stability and transparency to state provision, the Government should cease their current policy of increased and complex targeting. Everybody needs to be able to calculate what their basic state benefit will he, even though that will be inadequate and they will have to make their own private provision on top of that. Secondly, in partnership with the private sector, a concerted effort to increase education about pensions and retirement income should be initiated as soon as possible. As a spokesperson for the Co-op Insurance Society said in March 2002:Consumers need to be clear about what to expect from government, and with the right incentives to save they can then successfully make their own private provision for retirement. Only when a state solution is achieved and understood will individuals appreciate the risk of not having saved is greater than that of having saved".
§ 8.3 p.m.
§ Lord Higgins
My Lords, I join noble Lords in congratulating my noble friend Lord Fowler on initiating this debate. He made a distinguished, powerful and alarming speech, which I hope will receive widespread attention. He also paid tribute, as have many noble Lords, to Lady Castle. I share the sadness at her absence and the fact that she is not able to advance her views. Those views were, I stress, supported by the Select Committee in another place. We found ourselves agreeing more and more. I was not particularly worried about agreeing with her but I 370 believe that she may have been somewhat worried about agreeing with me. Her loss is a sadness: we respect her memory.
I declare an interest as the chairman of trustees of an occupational pension scheme. I disagree with the noble Lord, Lord Varley. I believe that there is a crisis in pensions provision and that that crisis is now. The danger is that the effect will be felt for a very long time. My noble friend rightly drew attention to that crisis.
At the risk of some repetition, it is worth stressing the cumulative effects of the various factors now affecting pensions provision. It is of course affected by the fact that people are living longer—the age of the population is increasing. We warned about the long-term effect of the Chancellor's action on ACT from the very beginning. The noble Lord, Lord Oakeshott, stressed why that is becoming apparent.
Pensions provision has also been affected by the fall in the stock market, the fall in the savings ratio—it is barely half what it was in 1997—low annuity rates (which reflect the Government's policy on gilts) and the Government's persistence on the 75-year rule, despite the fact that the House has twice voted against it. It is also affected by the Government's policy on uprating the national insurance pension, as against the minimum income guarantee, the contracting-out rebate, which is tending to push people out of private schemes and back into the state scheme, the change—this point has not been mentioned—of many pension schemes to a market-related basis and, of course, the effect of FRS 17.
All of those factors are having a cumulative effect. Some of them are short term and perhaps temporary, but others are long term. Some can be affected by government but others are beyond government control. It is essential for the Government to do all they can to improve the situation.
My noble friend Lord Fowler discussed company schemes and the noble Baroness, Lady Turner of Camden, rightly stressed their importance in the system. The major shift from final salary to defined contribution schemes is a matter of grave concern. There seems to have been something approaching panic among some companies. As the noble Baroness, Lady Barker, said, they should take account of the reasons why they are producing pension schemes in the first place. There is also the danger of a knee-jerk reaction and the fact that it is becoming fashionable to change from one scheme to the other. A major transfer of risk is involved. The extent to which that is from the company to the individual and the extent to which that is important depends on the size of the pension fund compared with the size of the company. In some cases, the pension fund may be a great deal bigger. As a result, the fluctuations in the company's financial position—that is a result of FRS 17—may be sufficiently large to prevent it paying dividends and so on, which is of great importance. The number of company schemes closing down has nearly doubled in the past year.
I want to say a word on FRS 17. In a short time we shall move towards a European standard. It is absurd to go for FRS 17 at this stage if one is going to have a 371 system under the European standard that allows a degree of smoothing. Accountancy bodies are right to argue for a degree of transparency but I hope that the move to the European scheme may alleviate the tendency for companies to change from final salary to defined contribution schemes.
The Government have a responsibility, which the accountancy standards body does not, of taking account of the wider issues. Concerns have been clearly expressed. Fluctuations in a company's balance sheet as a result of market pressures are important.
On the funding issue, it is important that as many schemes as possible should be funded. There are increasing doubts in both political parties about the "pay as you go" scheme. That was implicit in the remarks of the noble Lord, Lord Desai, who said that there is no guarantee that future generations will pay up in relation to such a scheme. Indeed, as the number of people who rely on the minimum income guarantee increases—perhaps the noble Baroness can give us an idea of how many people she believes will be receiving the minimum income guarantee by, let us say, 2020 or even 2050—then of course the question arises of who will pay. That is not at all clear. A large percentage of the population will be on the minimum income guarantee and I suspect that relatively few will receive higher pensions for which they have made provision themselves.
Alas, I do not have time to go into detail about the state pension arrangements, except to say that there is now considerable confusion so far as concerns the national insurance contribution system. We are about to deal with the National Insurance Contributions Bill. I believe that the fact that the money from national insurance contributions provides both for the NHS and for pensions through the National Insurance Fund leads to a great deal of confusion. It is high time that we segregated out those two so that we know exactly how much money is going in one direction—that is, to the NHS—and how much to the National Insurance Fund.
So far as concerns the stakeholder pension, to which a number of noble Lords have referred, I suspect that to a large extent it has missed its target. The take-up has not been as great as any of us would have hoped. So far as concerns the state second pension, there have been several criticisms of it, most notably by Mr Timmins in the Financial Times. We still do not know when it will change from a graded basis to a flat-rate basis. Fundamentally, all that suggests that the Government's objective of reversing the ratio of 40 per cent of pensions being provided by the private sector and 60 per cent by the Government is increasingly in doubt.
I want to make one or two more brief points. I believe that the Government are proposing to tell people what their pensions are likely to be. My noble friend Lord Freeman and, I believe, the noble Lord, Lord Varley, suggested that that was a good thing. I do not believe that a satisfactory forecast of that kind is 372 likely to be accurate. Certainly, if the attempt had been made 10 years ago, it would by now have been proved to be very inaccurate.
It would be more helpful if the Government were to tell us what size of pension fund will be necessary to give people an income above the minimum income guarantee level. Whether it be at the lower levels of company schemes on defined contributions, on stakeholder schemes or whatever, there is a real danger that people will contribute a considerable amount of money throughout their lifetime but find, when they come to retire, that that will all be taken away because those contributions will be taken into account in calculating the minimum income guarantee. I believe that we need to know what size of pension fund is necessary in order to provide people with a sum above that level. That would be more helpful than a very speculative estimate as to what individuals' pensions might be.
I want to make one final point. The Government continue to avoid saying what the pensions liabilities of the national insurance scheme are so far as concerns their balance sheet. We had a Bill which was supposed to produce a government balance sheet. The liabilities of the pension commitments of the Government have not been reflected in that. It is an important point.
As I said, this has been alarming debate, but I believe that it has provided a warning signal that needs to be heeded. Action needs to be taken in many areas in order to prevent this crisis developing further and adversely affecting the standard of living of generations to come.
§ 8.14 p.m.
§ The Parliamentary Under-Secretary of State, Department for Work and Pensions (Baroness Hollis of Heigham)
My Lords, I am grateful to the noble Lord, Lord Fowler, for initiating an extraordinarily well informed and very interesting debate. Like others, I deeply miss Lady Castle. But I know that my noble friend Lady Turner will continue to fly the standard for her.
I am very pleased to have the opportunity to discuss pensions today. The noble Lord, Lord Fowler, started by saying in, I believe, almost Disraelian language that he was worried about the development of two nations. I agree. And my noble friend Lord Desai said that we were perhaps the last of the lucky generation. That is true, but I want to correct him. Some of us have had access to good occupational schemes—indeed, we have been members of a lucky generation—but, for decades, women, unskilled men, those living in areas of chronic unemployment and those suffering chronic ill-health have never been lucky.
Hence our strategy to tackle the growing inequality between rich and poorer pensioners. On average, older people who have already retired are much better off than was the case 20 years ago. However, when we came to government the picture was mixed and we have taken action to help those in need. We have introduced the minimum income guarantee, and we have provided support through the Pension Service, as 373 well as making increases in the basic state pension. We have given extra support to pensioners with a real-terms rise of approximately £6 billion since 1997, of which £2.5 billion has been spent on the poorest third.
The result can be seen in the latest April HBAI statistics. Those show that using 1996–97 as our baseline, 27 per cent of pensioners were below 60 per cent median AHC figures when we came into government. That is now 15 per cent. The figure has reduced from 27 to 15 per cent using those 1996–97 baseline figures—that is, it has virtually halved. Therefore, we are beginning to narrow the gap in absolute terms between rich and poor. As I said, we can see that the incomes of our poorest pensioners have grown twice as fast as average earnings in real terms. Therefore, relatively their position is improving dramatically.
The noble Lords, Lord Freeman and Lord Oakeshott, and others called tonight for a rise in the retirement age to 70. There is not a retirement age of 70: there is an age at which the state pension is paid, and that is 65. Here I agree with the noble Baroness, Lady Barker, that the problem is not that the retirement age is 65 and that it should be 70; the problem is that the state retirement pension is paid at 65 and too many people drop out of the labour market at 55, 58 or 60. They live off their savings and therefore port poverty into their old age. Anyone of the age of 65 can defer taking the state retirement pension and receive an increment worth about 7.5 per cent a year. Thus, effectively they can have a flexible decade of retirement. However, as your Lordships know, we shall be considering such issues over the next few years.
The first part of our strategy was to try to narrow the gap between poorer and richer pensioners. The second stage is to address the disincentive for people to save. I am delighted that the noble Baroness. Lady Greengross, was able to pay tribute to the work of pension credit. To talk about pension credit, as some press reports have done, as penalising thrift is simply absurd. At present, for example, anyone who has a private pension income at a level between the retirement pension and MIG receives a deduction pound for pound—that is, it is a 100 per cent deduction. In future, under pension credit there will instead be a taper of 40 per cent. That is, indeed, a help to those on modest savings and modest occupational pensions.
Pension credit will signal the end of the weekly means test. The noble Baroness, Lady Greengross, was right to say that we should be talking the language of entitlement and not means-testing. Instead of a weekly means test, there will be something like a quinquennial review of income. Supported by the new Pension Service, I hope that take-up figures, which everyone wants to see achieving the level that is appropriate, will include the pensioners who need the money most. We are making significant moves in that direction. I believe that what we are doing through the Pension Service and pension credit will see us get there.
I now want to talk a little about our strategy to ensure that future pensioners have a decent income in retirement. That brings us to the point that most 374 people dwelt on tonight—that is, the need for a good second pension. The key point to emphasise—it has not been mentioned tonight—is that a decent occupational pension reflects not what one does when one is in one's 50s, let alone what one does in one's 60s; it reflects the fact that one has gone into work and obtained an adequate job with an adequate pension scheme in one's 20s. It is compound interest that pays.
Our responsibility is also to ensure that we do not penalise individuals so that those who 'were poor before they retire continue in poverty once they reach retirement age, particularly women and carers. For those two reasons we want to ensure long-term pension commitment for those in the labour market and financial support through a pension for those who are able to enter the labour market only intermittently because of care responsibilities or disability. For that reason we introduced the state second pension, which will make it worth while for people on low and moderate earnings to save for their retirement.
We also want to ensure that people have a decently funded scheme, which is where employers have a vital role to play. The noble Lord, Lord Freeman, wanted to know what kind of information would be made available. He asked about reviews. He is absolutely right that unless people know the sums and the prospects they will not save.
The Pickering and the Sanders reports will be published this summer. The response to the Myners report has already been published, but we are consulting on some of the specific recommendations on trustees and the like. We expect—probably in the autumn—to have an across-the-board government response, but with health warnings attached.
What Myners said relates back to what the noble Lord, Lord Higgins, said. He showed in his review that what really matters in terms of pension funds is their record of asset management. It followed from that that ACT, whose loss has been much regretted and deplored by the noble Lord, Lord Higgins, is probably less than one-tenth of the difference between the best and the worst performing providers of pensions.
As people are concerned that they should have a decently funded second pension, we have introduced not just the state second pension, which is not funded, but the stakeholder pension as well. The latest figures show that something like 815,000 pensions have been sold up to the end of March. That is not the disappointing result suggested by the noble Baroness, Lady Barker, and my noble friend Lady Turner. Something like three-quarters of a million more people are now saving for retirement than a year ago. We have to achieve the correct balance, as we believe we are, which is why there is a review.
There has been much talk of a pensions crisis. My noble friend Lord Varley batted those words around. Defined benefits pension schemes are still the most widespread form of provision. In 2000 in the private sector, 53 per cent of employees in companies with 20 or more staff had access to a defined benefit scheme. A quarter of all employees in companies with 20 or more staff were active members, and 45 per cent had some kind of employer-sponsored provision.
375 There is a significant problem, but I do not believe that it is a crisis. In my view the problem is not so much the switch from defined benefit to defined contribution schemes. There are differences, such as the rate of portability with defined contribution schemes, and there is less security with defined contribution schemes. We know that those may or may not be regarded as offsetting each other. I believe that the noble Lord, Lord Higgins, was right to say that the real problem is that this opportunity has been taken by finance directors to cut employers' contributions. That is the basic problem.
All the statistical forecasting that I have seen shows that if one can ensure that the employer-employee contributions together remain at the same figure as under a defined benefit scheme, over time the outcome between a defined benefit and a defined contribution scheme should be little different. Precisely because that does not happen, and as the NACF has shown the average employers' contribution has halved from about 12 or 15 per cent to 6 per cent, the crisis to which the noble Lord, Lord Higgins, referred, may occur. That is because employers are seeking to use this as an opportunity to cut their contributions.
§ Lord Higgins
My Lords, does the noble Baroness not at least accept that there is a transfer of risk from the employer?
§ Baroness Hollis of Heigham
Yes, my Lords, I said that on the one hand there is a transfer of risk and on the other hand there is also a transfer of cash, which is made possible more easily by the portability of DC schemes. I tried to suggest that the one offset the other, but that is a matter of judgment.
The trend away from DB schemes has been in evidence for 40 years—not for four years. It is due to a combination of long-term increases in longevity. Over the next 20 years the numbers of people over the age of 85 will double, although some of the more alarming statistics about our average life expectancy should be taken with health warnings. The big difference that has taken place over the past 200 years is not that people are living longer—once people reach the age of 20 they live much the same length of time—but there has been a reduction in infant mortality, and averaging conceals that fact.
There has been a combination of long-term increases in longevity and medium-term losses on the stock market, which, as my noble friend Lord Varley emphasised, may have wiped something like £450 billion off pension assets on some calculations, as well as short term issues with FRS17. I agree with some of the comments made by the noble Lord, Lord Higgins, on FRS17. I share his views and my right honourable friend in the other place shares his views, that an equalising of accountancy standards over, say, three years on the European standard, rather than that imposed by the accounting standards board, will be a more appropriate way forward.
376 The level of contribution is important. One of the reasons that employers under DC schemes are reducing contributions is because they are matching the contributions made by employees. The trouble is that many schemes are being set up for new employees who tend to be younger and, therefore, contribute less. We shall need to encourage employers to have foresight in relation to this matter, which not all young people entering the labour market can be expected to have.
I want to take issue with the fact that there is a savings crisis as opposed to a pensions crisis. I have looked at the chart lines on that, comparing the level of savings with the level of inflation over the past 15 or 20 years. It is clear that the level of savings tends to reflect the level of inflation. It is insecurity that begets saving. Instead, with low inflation and low cash returns, considerable savings have been transferred and diverted into house purchase. However, low inflation itself is vital. It is true that annuity rates have fallen, which in turn reflect low inflation. Much as pensioners would like, they cannot have high annuity returns and low inflation rates.
In this context, noble Lords have advanced the case of the David Curry Bill that the world will be a much better place, and there will be positive incentives to save if only people could ensure that they could pass on their annuity pot to their children in the future. It may have been the noble Lord, Lord Fowler, who said that my right honourable friend Mr McCartney in another place said that this was a rich man's privilege. I believe he should respect that information. As far as I can ascertain, to ensure that people have a pension pot that floats them off state benefits, which is the minimum that every one would require, would require an annuity pot of at least £200,000 or even £250,000.
If on top of that one strips out the tax privileges that ensured that there was protection against poverty in old age—there is no point in having a double provision of tax privileges for inheritance purposes—one takes a further 30 per cent out of the pot. When one adds those two things together, one is saying that if those two points were built into the David Curry Bill they would benefit only the tiniest minority of pensioners and certainly not those pensioners facing any possible risk to comfort in their old age.
What really matters is the combination of return and inflation. I asked for work to be undertaken to find out what would happen if one had an annuity of £20,000 a year and how long it would take to be halved. At 2.5 per cent inflation it would take 29 years for that annuity return to be halved; at 5 per cent inflation it would take 14 years to be halved; and at 10 per cent inflation it would take eight years to be halved. Low inflation matters at least as much as high returns because that will protect people, particularly women, against poverty in their old age.
As many noble Lords have said, we have to be honest about the situation. It is not realistic to expect people to join the labour market in their early 20s, work for 30 or 40 years and out of that find themselves with a pension for a further 40 years unless employees 377 and employers make adequate provision. However, one encouraging factor is often overlooked The difference for pensioners between a minimum income and a comfortable retirement is often whether they have a second pension. What may increasingly transform their pension finances is whether the spouse has an occupational pension as well.
I return to a point I made earlier. The more we encourage married women into work—over 70 per cent of them now do—the more they benefit from the Government's combination of our minimum wage policy, our change to the lower earnings limit, our favourable treatment of second earners under the new tax credit scheme, our development of the state second pension and our stakeholder proposals. When we put all of that together it is more likely that women, as spouses, as partners, will bring into the retirement family income a second occupational pension which may admittedly be modest, but which may make all the difference between getting by and having comfort in old age. I accept that his 40 years and in this case her 20 do not add up to 60; we do not get the effect of compounding. Nonetheless, it will be a significant contribution.
I conclude. The Government believe that they are doing their bit. We have provided stable economic conditions in which people can find, attain and hold down jobs. Youth unemployment has virtually disappeared in this country. We have reduced inflation, which is now lower in this country than anywhere in the OEC'D, so pensions hold their value. We are producing pension products for those who have not had access, through modest incomes, to unfunded and funded schemes alike, including stakeholders. We are making information available. We are ensuring that the right products are in place to offer choice and flexibility. And we are ensuring that t he most appropriate regulatory regime exists. We are drawing on the expertise of Mr Pickering, Mr Sanders, Mr Myners and others, to ensure that that regime is the correct one.
But now it is up to individuals, with the support of employers, to ensure that they safeguard the future. The key to a secure retirement is to start saving enough early enough and to continue to do so throughout one's working life.
§ 8.32 p.m.
§ Lord Fowler
My Lords, this has been a short but important debate and I am grateful to all who have taken part. We are all agreed that savings for retirement need to improve. As my noble friend Lord Freeman and others said, we need to improve the climate for saving and we need to encourage pensions for, as both my noble friend Lord Higgins and my neighbour from the Isle of Wight, the noble Lord, Lord Oakeshott, said, we are facing a pensions crisis.
But I agree entirely with the noble Lord. Lord Varley; it is a crisis that we can tackle. That is clear. Indeed, valuable suggestions have been put forward in the debate on the measures that can be taken at this stage. I regard annuities as being one of the most important.
378 The Minister played a straight bat on virtually every proposal that was put forward. But I hope that the Government will not only take note of the warnings that have been given in the debate—I sincerely believe that they are serious warnings—but will also take note of and take time to consider quietly the proposals that have been made during it from all sides of the House. I do not believe that we can allow the position simply to drift on in the present way.
This has been a valuable debate. I beg leave to withdraw the Motion.
Motion for Papers, by leave, withdrawn.