Pensions policy has the unenviable task of providing for the needs of current retirees without unfairly burdening younger generations. Luckily, solutions do exist, writes Colin Wilson of the Institute and Faculty of Actuaries.
The demographic challenge of an ageing population means that the UK’s old age dependency ratio is at an all time high. In 2016 there were 285 people over the age of 65, for every 1,000 aged between 16 and 64. This is predicted to increase to almost 500 for every 1,000 by 2036.
This is problematic in the UK’s ‘pay as you go’ state pension system, where the current working age population is paying for current retirees.
What future for those in Generation X, who were unlucky enough to start saving after defined benefit was already in decline, and for who AE may have arrived a decade too late?
It is also affecting occupational pensions, where longer lives mean promises to current retirees are more expensive. In response, the working age population has seen the transfer of risk from employers, and from the government, to the individual.
In a defined contribution world, responsibility for longevity risk, inflation, investment performance and an appropriate decumulation strategy all sit firmly on the shoulders of individual savers, and how tomorrow's pensioners will cope with this is unclear.
Policy needs a delicate balance
Of course, no generation is completely homogeneous, and there needs to be some transfer of risk and value within generations as well as between them.
But evidence shows that an individual’s ‘generation’ is a contributing factor to their wellbeing. Each generation faces discrete challenges, and some groups are faring significantly better, or worse, than others.
Taking the long-term view, it is important that we meet the needs of the current generation of retirees, but that in doing so we do not place an unfair burden on future generations.
The real intergenerational victims
Contrary to popular opinion, it may not be millennials that suffer the most. We know that automatic enrolment has been a resounding success to date, and looks set to significantly improve adequacy among the cohort.
Changes to the eligibility criteria in last year’s review were a welcome attempt to cast the net wider and bring ever more people into pension saving.
But what future for those in Generation X, who were unlucky enough to start saving after defined benefit was already in decline, and for who AE may have arrived a decade too late?
Care will also need to be taken to ensure that the important upcoming contribution rate hikes do not lead to significant opt-outs, particularly among younger generations with competing pressures on their purse strings.
There are solutions
I am encouraged to see collective defined contribution schemes being considered by the Work and Pensions Committee, which acts as a reminder that only secondary legislation would be needed to make defined ambition a reality in the UK.
A new pension settlement that removes responsibility for some of the aforementioned risks from individuals, without leaving employers hamstrung by mounting pension liabilities, could help to improve fairness, even if only for a small proportion of consumers.
I would hope to see policymakers show a similar regard for intergenerational fairness in wider-reaching aspects of pensions policy.
Another solution to intergenerational inequality lies in how pensions are invested.
If current trends continue, the impacts of climate change will be felt most powerfully by those in the future, who have had the least input into its cause.
Targeting the trillions of dollars of assets under management by pension funds towards sustainability today could have a transformative effect on the world we leave for future generations.
Call time on triple lock
The triple lock has been successful in reducing pensioner poverty within the ‘silent generation’. But as the baby boomer generation begin to reach retirement, the fairness and affordability of the policy must be revisited in light of the new state pension.
Analysis by the Government Actuary’s Department suggests that, at current estimates, the National Insurance Fund will struggle to pay its liabilities past the 2030s.
Such news will do nothing to alleviate the concerns of younger generations that, despite making contributions today, may no longer have the crucial safety net of the State Pension when they eventually reach retirement.
Colin Wilson is immediate past president of the Institute and Faculty of Actuaries
