All I want for Christmas…
It’s that time of year; rumours of snow on the 25th of December, multi-coloured lights being turned on in high streets across the UK, and people struggle to think about what would constitute the perfect gift for their partner or family member. It is said that it is more blessed to give than receive although to judge from the current spate of Christmas advertising, the general opinion seems to be that the pleasure of the recipient is the key factor.
Without being selfish, it is reasonable for us to hope for two things this Christmas; firstly that we have a government – of necessity this is being written before the outcome of the current general election is known, and secondly, that the said government is able to focus on the nuts and bolts of the financial services sector, which – like many areas – has been neglected of late in terms of overall government policy.
While it is natural that much of our thinking at Christmas tends to be very focused on children, it is those at the other end of the scale who are more in need of presents this year. People reaching retirement age face a difficult dilemma when it comes to turning their savings into a model that will sustain them through the, hopefully, long years of retirement.
For those wishing to convert pension funds into decumulation products, the primary option is an income drawdown product, with all the risks that that entails. Not only does the retiree face carrying the risk of any volatility in the markets via his or her investments, but they also face the key difficulty of having to manage their investments by themselves at a point in their lives when their ability to manage finances may well have deteriorated due to ageing.
Alternatively, there are annuities, which are so hobbled by the extremely low interest rate environment globally that they no longer constitute a real choice at all. Choosing to go with an annuity is only for those whose pension pots are so large that the rate of return is no longer a key factor – hence the very low sales if annuities being reported in 2019. In September, annuity rates hit a new low. The drop means the average annuity income is now 1.2 per cent lower than its previous all-time low recorded in September 2016, following the impact of the EU referendum result. Clearly, the annuity market is not going to recover anytime soon.
What do pensioners really need?
The real needs of pensioners are not being met. Once people retire, they need a reliable source of income. They want an income they can depend upon without having to worry about it or having to monitor the state of the financial markets, an area in which the majority do not have any real expertise.
Trying to ensure a smooth flow of income from a drawdown product is extremely difficult. It involves constantly monitoring the drawdown funds and using different investment strategies across the lifecycle of the market. This is a full-time job for experienced professionals and therefore a bit beyond the capacity of an average person who has never dealt with the markets before.
The government need to help providers by introducing capital investment projects aligned to financial products that have an ability to provide an income stream. All parties are considering tapping into pension funds in order to fund major infrastructure development but we need to ensure that there are ways for smaller investors to take part; by giving them the ability to invest long-term into these projects in order to deliver them an income stream that can be guaranteed across their lifetime.
Information, information, information
Clearly, there are also changes that need to be made in the delivery of information to pensioners. Advice is expensive and difficult to source. The ability to provide automated information and advice to pensioners is key, allowing the advice to be provided by the system so that it is easily accessible and allowing people to cheaply use it so that they get used to it while younger is also key, as in later years it will be difficult for them to get to grips with both the technology and the information it delivers.
Finding a way to ensure that suitable amounts are available for later years and to cope with the possibility of major care needs in later years is vitally important. A constant income stream, which would be much more suitable for paying for care provision rather than lump sums, is key to this. The risk of longevity is too great and arbitrary a risk to be managed at an individual level and it therefore needs to be able to have major funds which can ameliorate the risk. And yet most people do not give too much consideration to the care-levels they might need in the future and there is not much information given to them during their working life, the time when they are earning sufficiently to be able to do something about it.
Of course, there is a lot of focus on the market to provide a solution and to put the onus on individuals to arrange it for themselves. However, this seems out of kilter with the accumulation side of pensions, where that approach failed so badly that in the end all parties agreed that a nudge approach was needed. This resulted in the auto-enrolment process, a process which has been wildly successful in increasing dramatically the amount of people saving for their retirement. There are two keys to this; In the first place, the government weren’t shy of getting involved and built a cross-party consensus in order to ensure that a change of government, which eventually came, wouldn’t derail the process. In the second place, the approach taken was one of compulsion, forcing employers and employees to get involved and making it hard for people to opt out and remain opted out.
As a result, there has been a big increase in the numbers saving. Of course, they still aren’t saving enough for their retirement, but it is a much easier task to encourage a saver to save more, than it is to get a non-saver to start the process. Now, the industry itself finds it easier to sell to the consumers in order to improve the returns that they are going to get because they are already seeing the benefits of the saving that they are doing.
It seems clear that while the accumulation side has made much improvement, the decumulation phase is still lacking. The introduction of pension freedoms by a recent government for political reasons has given people the opportunity to control their own pension fund but doesn’t make them deal with the consequences of making a bad decision, leaving the taxpayer to pick up the tab if retirement funds are drained too quickly.
Whilst most people are quite sensible in how they approach their retirement finances and don’t blow it on luxury goods, the fact remains that people generally underestimate their own lifespan significantly. This means that they are much more likely to go through their savings at a very fast pace and therefore the chance of them running out of money in their eighties is very high. Those lucky enough to live above the average lifespan run a very high risk of having to spend their old age in poverty, poverty which will arise at a point in their lives when increasing their income through new sources is unlikely to be an option.
The success of the changes to the accumulation were well founded upon a non-partisan, cross-party approach. Perhaps what’s needed for the decumulation side is a move to the same type of approach. Whilst the political atmosphere is more febrile at the moment, the needs of the retirement policy is one of considered and steady approaches which do not keep fluctuating as political fortunes ebb and flow.
A people’s policy
There has been a lot of talk recently about the use of citizens assemblies to deal with major political matters, such as climate change or the divisive issue of Brexit. Quoting successes in other countries – notably Ireland’s success in dealing with the emotive issue of abortion – the idea is that a random collection of citizens with no particular axe to grind could dispassionately examine the problem and propose solutions.
Whatever the merits of this approach for thorny political issues, there is a strong case for getting a round-table consensus on retirement; the ageing population of the UK is a well-known problem and the absence of a long-term consensus for resolving a known looming problem is inexcusable. Increasing longevity is a fact and the needs of the elderly are well known so no political party can realistically ignore the issue. But what is not needed are arbitrary changes in policy that are more governed by the short-term political pressures of the day rather than by the long-term issues arising from the greying of the UK economy.
So, what about depoliticising the issue by setting up a type of citizens’ assembly to deal with ageing; a cross-section of society randomly selected and charged with making recommendations for a long-term strategy for dealing with the issues of an ageing population. Later retirement ages and the increase in the number of people opting for a phased retirement, where they are drawing down some pension whilst continuing to earn part-time at a lower rate, is increasingly common. But these approaches bring new problems, which the rigid pension systems of the past are ill-equipped to solve.
To date, there have been consultations with industry stakeholders, such as life and pension providers, financial advisers and representatives of groups such as age-awareness. but this would be about getting ordinary voters. The expert groups would be asked to provide information and answer questions but ultimately the group should come up with recommendations for a strategy which will be sent to parliament for the politicians to debate and devise a policy.
This would have the merit of taking a lot of the heat out of the issue and prevent it becoming a political football. It would enable us to look at the problem holistically, taking into account inter-generational fairness and other aspects of the problem and would hopefully result in a policy that would be enacted irrespective of the political party in power. And ultimately it would enable long-term planning by employees for their future which would not be altered by a sudden change of government. As we have seen big changes require stability in policy.
Whatever else we might get this Christmas, the depoliticization of pension policy should be at the top of everyone’s Christmas list with a version of a citizens’ assembly tasked with bringing about a pension system that can deliver for all. Let’s just hope we’ve all been good enough to receive it.