Succeeding Governments have concerned themselves with the financial insecurity of those on the bottom rungs of society. The plight of those whose earnings don’t allow them to amass a significant financial cushion to cope with unexpected events has struck a chord with ministers from all parties, who have tried to come up with solutions that will support people at times of great financial stress.
The motive is admirable. Let’s help the ordinary worker build a stockpile of savings to be able to cope with life’s ups and downs. However, the focus always seems to be on pushing savings for a rainy day, which ignores the basic problem that for the majority of basic rate taxpayers, it takes far too long to amass sufficient savings to provide any level of security.
The Government currently has a number of strategies in place to help ordinary workers save for their future. The logic behind the Government spending is impeccable - the value to the taxpayer comes when those who had help building a rainy-day account can then cope with any issue that occurs without needing to fall back on state support. Therefore, a small expenditure now should save a lot of money for the taxpayer in the future.
This is a broadly accepted principle worldwide and does seem to have much merit. However, it will only work if the end result of the taxpayer assistance is to make people more self-reliant in their finances. To
that end, it is moot whether savings or investments are the correct focus for Government effort and expenditure.
PLENTY OF PRODUCTS
One of the main thrusts of Government policy has been the individual savings account. Wildly popular, the take-up has been very good across the country, although skewed a bit towards the more comfortable households. It has been augmented with various new varieties, such as the Help to Buy ISA and the forthcoming Lifetime ISA, but the problem is still that for lower earners, the amount that they can afford to contribute means that it takes a long time to have a decent amount saved. Lower earners are also more likely to have gaps in their contributions caused by gaps in employment, which further reduce their overall savings.
The other main area of focus has been pension support. However, this area is also skewed towards benefitting higher rate taxpayers. Therefore, the appeal to lower-rate earners has been less and the take-up has been poor among this group. To correct this, the auto-enrolment strategy was devised, with all-party support. While the intention is good, the amount that can be saved by lower earners across their lifetime is relatively low, given their lower earning capacity. Thus, they will end up with small pots of savings that, at current rates, will make the purchase of an annuity look like a poor choice.
This has been exacerbated by the contradictory introduction of the pension freedoms. Allowing people to withdraw their pension savings at retirement results in a strong possibility that the money will be used for debt reduction or spending in early retirement. The chance of these smaller pots being used to generate an income that will support people throughout their later years is miniscule.
Between these twin approaches, the Government, in the form of the taxpayer, the employers and the actual workers, are all contributing a significant amount of money to help the populace, and in particular the lower earners, reach a position of financial security. However, it doesn’t seem to be succeeding.
Perhaps that is because all this help, however well-meaning, is completely misdirected. There seems to be little point in the Treasury dreaming up new ways for people to save and invest their earnings when any new ideas will ultimately crash up against the same barrier - the lower-paid just don’t have sufficient spare cash to build a big enough financial backup for when things go awry. These products are the first to get washed away when the tide turns against the individual.
HERE’S AN IDEA - INSURANCE!
The Government policy is to try to spend taxpayers’ money so that people can be self- reliant rather than having to lean on the state when things go wrong. However, savings and investments require up-front cash if they are to generate any significant level of savings that people can use to protect themselves against the vagaries of life.
Up to now, the most common and easiest way to provide security has been via the old- fashioned approach of insurance. The idea of pooling a risk, such as a fire or car accident, is easily understood by people. What’s more, they are not disappointed if they don’t claim, as paying the premium for no return is seen as a much better result than actually losing your home to fire or being involved in a road traffic accident.
Therefore, because of the pooled risk element, financial security is gained for these very specific risks without causing much anguish to the people involved. Indeed, the Government is already involved, as it mandates the purchase of car insurance, and therefore doesn’t give drivers the option of taking the risk. If instead they would support people saving so they could pay for the damage, many people would be at high financial risk from these events for a long period of time, until their savings had built up sufficiently for them to be able to cover the loss. It is clearly a far cheaper approach to encourage people to pool the risk and thereby leave them able to sleep at night, free from concern about these dangers.
Indeed, this was the whole origin of insurance - people who were unable to take the risk themselves pooled their resources so they could protect themselves against everything but a total calamity, where the risk occurs to everyone at the same time, an extremely unlikely event.
However, it does show a more cost-effective route for the taxpayer, compared to subsidising savings that could be frittered away on anything and may prove insufficient regardless to guard against the risk.
CHEAP CAN BE EFFECTIVE
Our neighbours in Ireland have mandated mortgage protection on the family home. They insist that no mortgage be allowed on the main residence unless it is accompanied by a mortgage protection policy on the lives of the mortgage payers. As few people die during the term of a standard mortgage, this is a very cheap and efficient way to avoid the Dickensian sight of widows and orphans being turned out on the street.
Yet, in the UK, there is an aversion to the compulsion to protect people against severe financial trauma, even though a homeless family will ultimately be thrown back on the resources of the state that would then have to find housing for them. The benefit for the taxpayer is clear and the cost is non-existent. The involvement of the private sector is undisturbed, yet there is a reluctance to consider this route as opposed to supporting savings.
Maybe we should be even more ambitious than this. If the Government is going to use compulsion and taxpayers’ money to increase the financial security of the nation’s low earners, surely they should switch to pushing the amount of protection products bought by the general population, rather than increasing the savings. There are a number of areas that would prove relatively quick wins if the Government is prepared to actually govern rather than try to persuade the people to be governed, i.e. abandon the ‘nudge’ ideology brought in by David Cameron and go back to the compulsion approach of earlier years.
PROTECTING YOUR INCOME
The pooling of risk in the area of income protection is highly successful. This could easily be an area where the taxpayer could get involved with both the employer and the worker, and combine to ensure that income protection is provided for all workers. The benefits are obvious:
- A huge saving for the taxpayer from the money being spent on supporting those who are off work ill
- A more efficient claims system by the life companies
- Better organisation of a return to work for those who have recovered, as the life companies would be motivated to achieve this.
- The artificiality of the current method of using outsourced groups to manage the process and to try to control the process of getting people off disability benefits by forcing them to hit targets is highly inefficient, and inevitably leads to waves of bad publicity across the airwaves. The more direct motivation of the life companies when they are paying out their own money would be far more effective.
PROTECTING YOUR RETIREMENT
Similarly, the much maligned annuity is a great way of pooling the risk of outliving one’s savings. Here politicians and journalists have been heavily at fault in giving the impression that dying early means a bonanza for the life company. They have consistently failed to point out that it is an insurance product that allows an individual to sleep easily, knowing that they won’t accidentally outlive their savings and end life in utter poverty. As such, the money from those who die early goes mainly to the ones who die later, much as the premiums from those who insure against fire mainly go to those who are unlucky enough to have their house burned down.
While it may appear a backward step, returning to the compulsory purchase of annuities or drawdown, governed by certain rules, at least justifies the contribution of the taxpayer. Without it, the whole process merely looks like a wealth transfer from the lower paid to those who can afford the luxury of saving.
PROTECTING YOUR HEIRS
Even burial insurance, the ‘June Whitfield’ policies, could do with being pushed. Cheap as they are, they clearly are not being sold enough; the British Seniors Insurance Agency has recently reported that in the 18-to-34 year- old age group, 40% had to bury someone using a credit card for payment and 25% had to resort to pay-day loans to bury their loved one. Surely, a mandated insurance would prevent a lot of financial stress, along with giving a much needed boost to the carriage clock industry. Once again, the cost would be minimal compared to the benefit.
OPPORTUNITY FOR CHANGE
The key to it all is financial security, and nothing provides cost-effective financial security like a protection product. Government mandated and supported protection products would do far more to cushion the lives of the population from the brutal blows of fate than relying on their ability to save.
The recent change of Government is a golden opportunity for a change of strategy. Maybe it’s time to refocus, away from the easy task of using investments as a policy tool and promising easy money to the masses, and go for the less populist but more effective approach of compelling people to protect themselves financially. Supporting this by part-paying the premium would be a far better spend for the taxpayer, as it would deliver tangible benefits in terms of the money saved. It just requires vision and long-term commitment. Here’s hoping.