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Indexation a 'tangled mess' in wake of CPI consultation paper, says Aon Hewitt

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  • Indexation a 'tangled mess' in wake of CPI consultation paper, says Aon Hewitt

UK - Aon Hewitt has warned of ongoing confusion for pension funds after UK pensions minister Steve Webb unveiled the government's paper on linking pension increases to the consumer price index (CPI).

Webb yesterday announced that pension funds would not be granted the power to modify scheme rules, which often stipulate that pension indexation should be in line with the retail price index (RPI), rather than the measure dictated by the government.

The National Association of Pension Funds complained that the government had created confusion in the industry and that it had underestimated the complexity of the issue.

Joanne Segars, the organisation's chief executive, said: "Having marched us up to the top of the hill and created confusion in the pensions industry, the government has now marched us back down again."

She also warned that the decisions made would not help many defined benefit schemes in addressing their shortfalls.

"While keeping many pensions locked into RPI is good news for current and future pensioners, the effect on the sustainability of final salary pensions is less positive," she said.

"Pension funds are under great stress, and some really need the breathing space that an option to switch to CPI would have given."

Lynda Whitney, principal at Aon Hewitt, said the news meant there was now an opaque structure that would increase the burden on administrators.

"Our main concern with the CPI change is where it leaves pension schemes once the dust has settled - with the potential for additional confusion both for schemes and for members," she said.

"Many members are now likely to see benefits increase by CPI in the period between leaving a firm and reaching retirement - RPI in payment for most benefits, but CPI in payment for guaranteed minimum pensions (GMPs). Overall, it's still a tangled mess that no one will understand."

However, her colleague Paul McGlone praised Webb for listening to industry concerns.

"The government has listened to industry concerns and has proposed that any scheme choosing to stick with RPI increases would not have to pay the increase at the higher of CPI or RPI in any given year," he said, adding that it was the practical and sensible option.

Consultancy LCP said the next step would be the creation of a liquid market for CPI-linked gilts by the government, which he said should also facilitate the exchange of RPI-linked gilts for its consumer price alternative, should schemes wish to do so.

James Trask, investment partner at LCP, said such a market would help schemes that now see their liabilities linked with CPI.

He said: "A programme of CPI-linked issuance would be a good start, but this will take time to evolve into a significant market with decent liquidity."

John Ball, head of UK pensions at Towers Watson, branded the situation a "small-print lottery".

"Companies might have to pay for bigger pension increases than their competitors because of something they did for administrative simplicity long before anyone had heard of CPI," he said, adding that, for some companies, it would particularly grate that government schemes would be able to index pensions using CPI while they could not.

"However," he added, "many trustees would not want to change from a pension based on RPI to a pension based on whichever measure of inflation the government favours at the time."

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