The Only Way is Up? Britain's challenge to raise pension contribution rates
The Only Way is Up? Britain’s
challenge to raise pension
Wednesday June 12th, 2013!
! Professor David Blake, Cass Business School!
! Richard Wilson, Senior Advisor, NAPF!
! James Lloyd, Director, Strategic Society Centre!
! Dr. Yvonne Braun, Head of Savings and
Retirement, Association of British Insurers!
! Adrian Richards, Deputy Director – Pensions and
Ageing, Department for Work and Pensions!
! Chair: Norma Cohen, Demography
Correspondent, Financial Times. !
The Only Way is Up?
Britain’s challenge to raise pension
Professor David Blake
Cass Business School
12 June 2013
What is the problem that needs
Ratio of time in retirement to time in work is
This is due to:
Increased life expectancy and longevity risk
Shorter and more discontinuous working lives
Later starts due to higher education
Work breaks either voluntary or involuntary:
• Child or elderly parent care
What is longevity risk?
We systematically underestimate how long
people are going to live:
Longevity is a slowly-developing trend risk
Danger of individuals outliving their savings
A related issue is possible long-term care needs
Official agencies underestimate increasing LEs
Actual and projected period life expectancy at birth,
UK males, 1966-2031
Shaw (2007, page 16)
Individual underestimates of life expectancy by age
Source: O’Brian, Fenn, and Diacon, 2005, self-estimated life expectancy compared with GAD
forecast life expectancy
Number of years by which consumers underestimate life expectancy
0 2 64 8 10
Source: 100% PNMA00 medium cohort 2007
at death =
Random Variation Risk
65 70 75 80 85 90 95 100 105 110
Expected distribution of deaths: male 65!
Expected distribution of deaths: male 85
Most likely age
at death = 86
85 90 95 100 105
1 in 3 will reach
93 and 5% will
Poor understanding of variability in life
Life expectancy in England and Wales
at age 65:
By social class and gender, 2002-5
Class description males females
I Professional 18.3 22.0
II Managerial and
IIIN Skilled non-manual 17.4 19.9
IIIM Skilled manual 16.3 18.7
IV Partly skilled 15.7 18.9
V Unskilled 14.1 17.7
All 16.6 19.4
What awaits future generations:
Longevity fan chart for 65-year old males
What are the potential consequences?
There might be an undesirable fall in standard of
living in retirement for individuals:
Leading an increase in means-tested benefits
If this happens for a large number of people,
then there will be a large increase in the tax bill
for the next generation of employees
What needs to be recognised?
People need to:
Determine their desired standard of living in
Estimate their life expectancy once retired
These factors determine the size of the pension
pot needed to support this standard of living over
the estimated retirement period
How can the problem be solved?
Suppose that this analysis leads to the result
that the pension pot will not be large enough
Only two real solutions:
Save more while in work
A third solution is to take more investment risk,
but the outcome is unreliable
So the real trade-off is between contributing
more and working longer
What else needs to be taken into
But DC plans favour those whose lifetime career
earnings peak earliest:
Because of compounding, the relative size of
their pension pots will be higher
What else needs to be taken into
DC plans will lead to lower pensions for those
with higher life expectancies
Due to post-code annuity pricing
The exception is women
Under gender equality legislation
Those with shortened life expectancies can buy
As a result of health impairments or lifestyle
Future generations will be worse off due to their
greater life expectancy
Contribution rate required for a male aged 25 to
achieve a 50% replacement ratio by the following ages
60 65 70
Ignoring1longevity1risk 26% 16% 8%
Allowing1for1longevity1risk 33% 20% 11%
Ignoring1longevity1risk 23% 13% 6%
Allowing1for1longevity1risk 28% 16% 9%
There is an unavoidable trade-off between the
contribution rate into a pension plan and age of
Anyone who does not accept that is expecting
the next generation to bail them out
If everyone behaves in this way, it is a recipe for
It’s the demographics stupid!
Ninth International Longevity Risk and
Capital Markets Solutions Conference
6-7 September 2013
James Lloyd, Director, Strategic
The Only Way is Up? Britain’s challenge to
raise contribution rates
! Achieving adequate pension income across retired
cohort has two components:!
! Adequate participation rates!
! Adequate contribution rates!
! Current reforms focused on adequate participation
! “AE is the easy bit”!
! Builds on those employers with good schemes!
! But, 8% of qualiﬁed earnings benchmark contribution
rate was never expected to be enough!
! And looks increasingly inadequate.!
What are the potential approaches
for lifting contribution rates such as
regulation, education, incentives
and behavioural interventions?
Whose contribution rates?
! Policy choices around whose contribution
rates to push up, and when!
Whose contribution rates?
! Universal or targeted approach to raising
employee contributions? !
! If targeted, then:!
! Who is the priority for intervention?!
! Whose contribution rates will be easiest to lift?!
! What are the trade-offs of a universal vs.
Whose contribution rates?
! Target employees by:!
! Age, life-stage!
! Different policy levers appropriate to different
! And different contribution rates appropriate.!
What are the policy levers
! AE regulation!
! Education and information!
! Other nudges!
! Raise the 8% of qualifying earnings
benchmark total contribution rate in
legislation through higher employee
! From current ‘ﬂoor’ to higher level!
! E.g. median adequate rate!
! But what is median adequate rate for workforce?!
! And, lifting employee benchmark contributions will
inevitably increase opt-out rates!
! Where is the ‘top of the curve’?!
Education and information
! Tell people what they should be contributing!
! Again – trade-off between universal vs. nuanced,
! Questions over effectiveness!
! Everyone knows they should be saving more!
! Not everyone knows what percentage of income
they are contributing!
! How effective is education at getting people to
! Link incentives to save to proportion of earnings put in
! Two key levers: employer contribution, tax-relief!
! Review interaction with different levels of employee
! But penalty for those under greater ﬁnancial pressure, e.g.
! Alternatively, look at rules/treatment of different share
of savings: !
! First x% of employee contribution treated differently to
! E.g. only the second x% of employee contribution can be
taken as 25% lump-sum?!
! Apply other behavioural economics
techniques besides AE (default) !
! ‘Commitment’: “Save more tomorrow”!
! Pre-agreed commitment to increase proportion of
income saved at time of next pay-rise.!
! ‘Norms’: use inﬂuence of what others are
! “The average contribution rate by employees in
your organisation/sector/age-group is x%”!
The only way is up?
• Adequacy varies by individual
• Govt as an enabler
• Contributions play a critical role in retirement income
• Impact of reform will take time to work through
• Auto-escalation looks promising
• Wider points
! What exactly is an adequate pension contribution rate? How
does it vary by earnings, life stage, preferences, cohort and
trends in economic growth?!
! Should policymakers aim for a universal, benchmark
contribution rate or opt for a more individualized approach?!
! What are the potential approaches for lifting contribution rates
such as regulation, education, incentives and behavioural
! What should be the balance between boosting employer and
employee contribution rates?!
! What do long-term economic and mortality trends mean for
deﬁning an adequate contribution rate for the workforce?
Could this eventually be beyond what workers will voluntarily
! Is the UK economy and Exchequer ready for high levels of
participation and contribution rates across the workforce? If
not now, when?!
Strategic Society Centre
32-36 Loman Street
Twitter: @sscthinktank !
The Strategic Society Centre is a registered charity (No. 1144565)
incorporated with limited liability in England and Wales (Company No.
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