The reason why pension provision of any type needs to be looked at again is simple – people are living longer than their parents or grandparents could have dreamed when they set up pension plans as a way of funding for retirement.
This associated rise in costs has been highly visible for funded private sector plans, which many employers have simply closed, replacing defined benefit arrangements with defined contributions. However, there have been only modest changes in public sector pension provision. As a result, there is now a stark divide between what public and private sector employees can expect out of retirement.
A major barrier to appreciation of the scale of the public sector challenge is the way in which the cost of providing pensions is hidden. The UK government has hidden behind costings that pretend unfunded schemes earn a return on their ‘investment’ well above what it costs the government to meet obligations to pay out equivalent inflation-linked promises on its own bonds.
A true assessment of the value of pensions in the public sector today suggests they are worth twice what the government suggests in its calculation of the contributions that public sector employers pay – over 40% of salary compared with combined employer and employee contributions of around 20%.
The Public Sector Pensions Commission, whose report is published today, recommends full transparency of costings so we can make proper decisions and choose how to reform public sector pensions at a time of rising life expectancy and costs. Some of the choices we investigate include:
- upping member contributions by 2% to bring in an extra £2bn a year
- increasing retirement ages for all staff, not just new joiners as the Labour Government changes in 2005 did – that would save around £5bn a year
- changing from a final salary scheme to one where your pension is based on average salary over your lifetime. This would hit high flyers hard and be fairer to the average worker and could save £10bn a year
- lower the benefit accrual rate from 1/60th to 1/80th of salary for every year of service. This would also save £10bn a year
The formation of the official commission on public sector pensions, led by John Hutton, is a welcome step by the new government. We hope that it will lead to genuine reform.
Peter Tompkins is chairman of the Public Sector Pensions Commission
