UK – Standard and Poor’s today claimed that the UK government has been far too optimistic in its public pensions projections on the back of the publication of the pensions Green Paper yesterday (December 18).
In a commentary entitled: "UK Pensions: Credit Implications of Government’s Green Paper", S&P says it believes that many of the fundamental assumptions made by the government about the fiscal burden of public pensions in the UK are doubtful.
On elderly dependency ratio and age-related spending patterns, S&P disputes the government’s view that despite an expected increase in the dependency ratio, pension spending through to 2050 will gradually decline as a share of GDP.
S&P’s own research projects the UK’s pension outlays to rise by 2.5% from now, peaking in 2040. Within this S&P sees the public debt to GDP ratio reaching around 70% in 2050 rather than staying below 40% as the Treasury expects.
Moritz Kraemer, sovereign credit analyst at Standard & Poor’s, comments: "The benign drop in the fiscal burden of public pensions projected by the UK government stands in stark contrast to the expectation in all other 21 OECD countries for which comparable data is available".
With the proportion of the population aged 55+ reaching 44% of the total electorate in the mid-2020’s, from 35% currently, Kraemer sees future political difficulty in trying to maintain the indexation rule, where benefits are indexed to the retail price index rather than to average earnings, given the fall it implies in pensions incomes.
Despite the government’s efforts to shift the balance of pension provision between individuals and the state towards a 60:40 split respectively, emerging evidence already points to inadequate private pensions provision among a large number of households.
In addition, traditional defined benefit (DB) occupational pension schemes, which have historically formed the mainstay of the occupational pensions system in the UK, continue to face considerable pressures.
S&P believes that the Green Paper fails to address both of these issues head on.
On a more optimistic note, however, it acknowledges that the Green Paper "introduces the prospect of some welcome rationalizations of risk-sharing and affordability issues between beneficiaries, trustee and employers and it might well reduce the opacity of the operation of occupational schemes".
A major change comes with the much anticipated replacement of the Minimum Funding Requirement (MFR) whereby companies will be subject to scheme specific arrangements and trustees will be required to set out a statement of funding principles. The statement is to be based on actuarial advice and negotiated with the employers. In the event of non-agreement between the trustee and the employer; the trustees would have the power to override the employer and freeze or wind up the scheme.
S&P believes this approach will require a "much more explicit balancing of the maturity of the fund, future asset allocations and investment yields, the current deficit, and the employers’ ability to meet the funding requirement".