How an ageing Britain can grow old and avoid a looming longevity crisis
BRITAIN’s future is getting greyer. In its most recent fiscal sustainability report, the Office of Budget Responsibility recognised that we are living longer and need more care. But we haven’t saved enough. The state won’t be able to keep us, and the dependency ratio will only worsen as fewer workers struggle to fund more pensioners.
We sleepwalked into a leverage-driven credit crisis, and it has taken five years of “monetary methadone” to cope with the consequences. We should not be as complacent about longevity. But how big is the problem and how should we adjust to cope? Here are our five observations and ideas.
£1 TRILLION IN AUTO-ENROLMENT FUNDS
The UK’s retirement savings gap is over £300bn, with the average retiree facing a shortfall of over 60 per cent – equivalent to 12 years. We must make pension saving work better.
Auto-enrolment, the public-private partnership which requires employers to automatically enrol eligible workers into a workplace pension and pay contributions, has been a terrific success with big employers. Over 90 per cent of joiners have stayed on board, arguably the most successful government initiative for decades. Next year, more employers will enrol, and future contribution rates will rise.
We should aspire to the success of Australia’s superannuation system where, after 20 years, assets under management – at A$1.6 trillion (£963bn) – are close to Australia’s GDP and are projected to grow further, as a 12 per cent contribution rate comes in by 2019. But for Britain to get there, soft compulsion will need to become hard compulsion as contribution rates rise. We will need to move to a later retirement age more quickly than planned, at the same time as making it easier for employees to work part-time, with a phased transition from work to retirement.
MAKE THE PENSION TAX SUBSIDY FAIRER
Pension saving has always been encouraged by tax deferral. But the “nudge” is skewed, with 70 per cent of the £35bn of tax revenue foregone by government going to higher rate taxpayers, rather than the basic rate payers who contribute 50 per cent of all pension savings.
A recent study by the Pensions Policy Institute provides good evidence that we should move to a flat rate of tax relief. This would be fairer, and would offer a greater incentive to those who most need to save more to avoid state benefits in retirement. It would suit government’s interests to adjust this incentive to make the tax nudge work most effectively, for the most number of people.
CONVERT HOUSING WEALTH INTO INCOME
Over-65s have an estimated £750bn of equity in property. Yet equity release is an underdeveloped market – £840m in 2011, or 0.6 per cent of the mortgage market. It has to grow: for most current retirees, monetising housing equity will be a key component in paying for care costs under the Dilnot proposals.
Many shun equity release because it has a historically poor reputation, it is expensive, and they want to leave bricks and mortar to their family. Providers find it difficult because of regulation, pricing of the “no negative equity” guarantee, and advice risk. Policymakers and regulators must replicate the success of auto-enrolment and work with industry to build this market, alongside local authorities who will operate the Deferred Purchase Scheme.
BUILD A £1 TRILLION CORPORATE PENSION DE-RISKING BUSINESS
Companies, particularly those with defined benefit (DB) pension schemes, also need to avoid the risks and distractions of rising longevity to free up resources for investment. They are doing so already, as pension funds increasingly use Liability Driven Investment strategies and make use of the burgeoning market in bulk annuities, buy-ins, buy-outs and longevity swaps. These markets are growing already and will grow further. Nearly £1 trillion of DB liabilities exist in the UK alone, and de-risking is an option most should consider.
GET GROWTH BACK TO TREND RATE
The extent to which rising longevity makes the public finances unsustainable depends on the rate of broader economic growth. There is an opportunity for a “positive feedback loop”, and pension assets can be invested more productively. This investment would get more people into work, raise productivity, and boost pensioner incomes.
Infrastructure and housing are two obvious areas. Investing £100bn of the savings of an older generation in infrastructure assets – transport, education, and energy, and at least 200,000 new houses per year – to the benefit of future generations, can also only be right in terms of intergenerational fairness and social mobility. We surely don’t want an economy where retirees’ wealth sits unproductively in housing and can only be put to broader use when it is passed down the family.
These are all areas where Legal & General is active. We can’t buck the trend of an ageing population. But with the help of policymakers and regulators, we can “lean in” to it, and help produce the right answers.
Nigel Wilson is group chief executive of Legal & General Group.