Wage increases stunted by defined benefit pension deficit
If companies weren’t having to plug the holes in final salary pension schemes wages would be almost £1,500 higher.
Average wages would be almost £1,500 higher a year if companies weren’t having to pay for defined benefit (DB) pensions, according to a new report from the International Longevity Centre (ILC-UK).
The think tank has found that if the money used to plug defined benefit pension deficits had been redirected towards wages between 2000 and 2015 the average salary would now be £1,473 higher.
The black hole
Defined benefit pension schemes promise a set payment to their members when they retire based on their salary and years working for the company.
But, thanks to rising life expectancy and low interest rates many companies don’t have enough money to pay these pensions, so are now having to divert huge sums to plug the gap.
Around half of defined benefit schemes are now closed to new members but the number of retirees who will receive this type of pension will remain in the millions for decades to come. With three million still receiving defined benefit payments in 2060 and one million in 2070.
“While the vast majority of private sector DB schemes have closed to new members, their impact on individuals, firms and the economy as a whole is likely to be long felt,” says Ben Franklin, head of economics of ageing, at ILC-UK.
“Our analysis suggests that plugging pension deficits has acted as an opportunity cost – supporting the pensions of retirees at the cost of investing in the current workforce. This situation will not change overnight. Based on conservative assumptions about future life expectancy and mortality, we estimate that DB pension will continue to be paid out well into the latter half of this century.”
Short-changed
While some of the pension contributions companies make will be for current employees, around half has been for servicing the deficits of DB pensions which have since closed to new members, according to the report.
ILC-UK is calling for the Government and companies to start looking at how to tackle the problems with funding DB schemes so that people of working age, are not short-changed in the process of trying to plug the gap in pension funding.
“Company executives, pension trustees and all DB stakeholders need to adapt to a society where funds of DB schemes cannot provide for forty or fifty years of retirement,” says Jennifer Donohue, head of global corporate and transactional insurance at Ince and Co LLP.
“Recognition of this legacy issue, and finding solutions to it, is the responsibility of all stakeholders, corporates, the government and scientists as we face a United Kingdom where a third of all babies born three years ago are now predicted to live to a hundred years old.”
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Apart from the obvious issues with this article (If pension deficits suddenly didn't exist, would the money auutomatically be redirected into wages as stated? Hardly - shareholder holder returns might rise and perhaps the remuneration of top bosses also because of this and maybe prices would be reduced a bit), what is not mentioned is that pensions are a contract, a promise to pay a pension at a much later date based on work and monetary contributions during a working life. Like all contracts they should be honoured - especially as the pensioner is in the obviously weaker position of making the contributions many years before receiving anything that has been promised. Those contributing to a pension were also powerless to set the rules and had to accept what was on offer and could do little if employers took contribution holidays or governments increased taxation of pension funds. But what is also ignored is that it is not uncommon for pensions to be funded by current workers - in fact unfunded pension schemes, like many in the public sector work on precisely this basis. Does the author suggest that all these pensions should be scrapped to give the current workers a pay rise?
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MK22 is quite right and just to add to his comment. The low government bond yields have been caused by direct interference of the government by schemes such as quantitative easing and money for lending. They are indirectly stripping the pension schemes of money to shore up the country's finances and create an inflationary property bubble which they hope won't burst while they are on power.
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You need to remember that these are not REAL deficits. They are deficits calculated in order to place a value on the balance sheet. The formula has been invented by accountants NOT pensions experts and the current high level of the deficits is caused SOLELY by the extremely low bond yields at the moment, nothing else.
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06 January 2017