If defined benefit has failed and defined contribution is the way forward, what kind of Collective DC model is practical, asks Jonathan Williams.
"Defined benefit has failed," Hamish Wilson, partner and managing director of the eponymous pension consultancy, declared at a recent discussion with journalists. It is not a point many would dispute at this time. Deficits have been increasing, with the burden to plug these shortfalls falling on sponsors at a time when many companies are still recovering from the past few years of slow growth.
His solution is to look toward the further growth of defined contribution (DC) as inevitable and therefore introduce the UK to Collective DC (CDC), a system employed in the Netherlands - except that his personal preference for scheme design is somewhat removed from the one widespread on the continent.
Wilson suggested only employers would pay into his proposed CDC model, with employees excluded, as this would remove emotion from the equation. When pressed, he said that if employees were still to contribute, he would envision their payments to be separated into a so-called raw DC scheme - the traditional DC model already predominant in the UK.
Of course, issues worth raising would be the impact of excluding employees and how this would affect their engagement with the scheme. While it is naturally beneficial for a scheme to exist where payments are made independent from a worker's desire to assist - as it guarantees every worker a minimum amount of cash in retirement - the impact of losing these additional payments should not be underestimated.
Studies have shown in the past that at least 20% of salary should be paid in over a worker's lifespan to guarantee a useful pension. As the aim of the CDC arrangement is to reduce the overall burden for employers, it is questionable if they will choose to cover the cost of contributions alone, without expecting employees to sacrifice any of their salary.
Additionally, while Wilson repeatedly stressed that the UK government would ideally keep its involvement to a minimum, allowing for a "principle-driven form of legislation", it is unclear why he then argues that a strong state pension should still form the basis of all retirement savings in the country.
It is hard to comprehend his complaints that the government was taking "more and more control of our lives", while also insisting it offers the foundation of our retirement savings to make up for shortfalls in a system that would unlikely compare with existing, if unsustainable, DB arrangements.
He did point out that the possibility of conditional indexation would go a long way toward making schemes more sustainable - a notion he would look to introduce in his ideal system. Already commonplace in the Netherlands, it allows for pension schemes to not offer full inflation-linking if returns do not cover the costs.
Wilson noted that a similar arrangement was already in place in at least one UK pension vehicle, the Pension Protection Fund, which would no longer be needed in a world where CDC was predominant.
His proposals certainly have merit and should be considered, but as the Department for Work and Pensions has already conducted its own study of such schemes with little success, and the proposals were excluded from the final report by Lord Hutton on public sector pensions, it remains to be seen how much traction they would gain within the UK's industry.