Policymakers should focus on pension beneficiaries to boost the UK economy

The chancellor’s Spring Statement this week marked a decade since George Osborne’s radical ‘pensions freedoms’ were introduced, and pension reform is again high on the agenda at Westminster. 

But in 2025 Rachel Reeves risks doing the right thing, for the wrong reasons. 

That’s because while the UK pension system is urgently in need of reform – suffering from high fragmentation, low contribution rates and a lack of defined purpose – the chancellor’s current intention seems to be to leverage pension savings to boost economic growth and invest in the domestic economy. 

Fostering domestic investment is certainly a worthwhile policy objective. But if prioritised above all else, it risks undermining the ability of the UK pension system to deliver on its principal purpose: to secure the retirement income of its tens of millions of current and future beneficiaries. 

If the UK is to have the world-class pension system it deserves, then it must be motivated solely by this clear rationale. If governments want pension funds to invest in the domestic economy, they should do this by providing the market with the policy settings and incentives to do so. Taking care of pensioners will ultimately benefit the UK economy as well. 

The need for reform 

Ten years on from the ground-breaking Pensions Schemes Act, the UK pension system finds itself once more in urgent need of improvement.  

Last year it fell to 11th place in an annual ranking of major international pension systems, with the same grade as Chile, Mexico and Uruguay. One of the reasons for this modest decline is the inefficiencies caused by its highly fragmented workplace pension landscape. 

The UK has more than 32,000 workplace pension schemes, with over 95% of defined contribution schemes having fewer than 11 members. 

This leaves the UK with a much lower ratio of assets to schemes than countries like Australia (whose pension regulator oversees 10 times fewer than the UK) and Canada (25% more assets, with half the number of funds). 

It’s why the UK’s biggest fund, the £76bn Universities Superannuation Scheme is only the 36th largest in the world. 

The problem is that smaller schemes are generally more expensive for savers. Research from the Pensions Regulator found the average cost per member of funds with 99 or fewer members is almost 10 times higher than that of funds with 5,000 or more. 

Larger pension funds are better able to spread administrative and operational costs, reducing per-member costs and achieving greater economies of scale. 

Contribution rate conundrum

The UK system is also suffering from relatively low contribution rates.  

While auto-enrolment has raised the number of individuals participating in the UK pension system, the average contribution rate significantly lags those of many other developed countries, according to the OECD. 

For example, the minimum combined contribution rate from employer and employee under auto-enrolment is currently set at 8% of qualifying earnings, but research suggests most individuals need to save closer to 15% of earnings in order to secure a comfortable retirement income.  

As UK life expectancy continues to increase, many pensioners face a significant shortfall in retirement. 

Gaps are especially acute for those currently excluded from auto-enrolment (e.g. workers under the age of 22, informal sector workers and the self-employed), and for women – who typically accumulate 38% less pension savings than men by the age of 57, according to the Pensions Policy Institute.  

As detailed in a recent white paper, the UK pension system is facing other difficult headwinds including a tendency to be too conservative in its asset allocation, inadequate portability, an excessive focus on fee caps and a basic state pension that pays out just over £11,000 a year – not enough for many to cover basic living costs. 

Yet of all these issues, by far the most fundamental for the chancellor is the perception that this is a system that lacks a clearly defined purpose.  

What is the principal purpose of pensions?

The UK pension system is one of the world’s oldest, but it has evolved into a patchwork of different schemes and policies, with no overarching framework to ensure individuals can achieve a decent and secure standard of living in retirement. It is urgent for the government to fix that, including aligning its three components – state pensions, workplace pensions and private pension savings – against a unified objective.  

The overarching goal should be clear: to secure the retirement income of the system’s tens of millions of beneficiaries. 

Each of the three pillars of the UK pension system can play their part in this. The state pension should focus on poverty alleviation; the workplace pension should focus on income replacement; and personal savings should focus on enhancing financial security. 

Clearly defining the role of each pillar would create a more coherent and effective system, to the benefit of all retirees. Long-term targets would help to direct future reforms. 

Reforms to benefit members

With a clear goal in place, the rest of the strategy to reform UK pensions falls into place. 

First, there should be consolidation of schemes as has happened in markets like Australia and the Netherlands. Size matters, with a clear correlation between larger pension funds and higher returns.  

The UK can start with Local Government Pension Scheme, where the pensions of over six million public employees are currently managed by 86 separate entities. 

Second, there follows the need to expand auto-enrolment to close the coverage gap. This could include changing the salary limits to fall under auto-enrolment and expanding its reach to encourage more self-employed and women into the pensions system. 

Putting the pension horse before the cart

Fixing these fundamental issues is not only the right thing to do for the beneficiaries who rely on the system, but also likely to lead to greater investment for the UK economy – the issue at the centre of the current debate. 

American economist and political commentator Thomas Sowell famously observed: “There are no solutions – there are only trade-offs.”  

In the case of UK pensions and domestic growth we must be not put the cart before the horse. Effective reform might remain a question of trade-off, but ensuring adequate income in retirement must always be seen as a solution – one that all interested parties have a responsibility to deliver. 

Positive effects for the UK economy will follow from a well-designed funded pension scheme. 

Fiona Reynolds is president and David Pinkus is director of the Coller Pensions Institute.