Examination of witness (Questions 247
- 259)
WEDNESDAY 10 NOVEMBER 1999
PROFESSOR RICHARD
DISNEY
Chairman
247. Ladies and gentlemen, can I open the public
session of evidence this morning? The Committee is undertaking
an inquiry into the contributory principle. We are very fortunate
in having with us this morning Professor Richard Disney, who is
a research Fellow of the Institute for Fiscal Studies and also
a professor of economics at the University of Nottingham, a well
known author on the subject who has been thinking about this for
some time. We are more than half-way through the inquiry but it
was suggested to us that IFS and you in particular have a particular
perspective on some of these important issues. I wonder if you
would mind saying what your perspective is at the moment and then
we will go into some questions that I would like to try and get
through.
(Professor Disney) I would like to make one or two
introductory comments but I will avoid being long winded and academic
and try to be very quick. There are one or two points that focus
us, in my view. We can think of what is the contributory principle
in a broad and in a narrow sense. In the broad sense, we can think
of the contributory principle as a generalised test or threshold
that entitles you to receive a benefit, perhaps past work history.
Other tests could be possible like nationality or residency rather
than a contribution history. For example, in the original post-war
Beveridge scheme, sickness and disability benefits were only available
to those with a history of membership of the national insurance
scheme and non-contributory benefits for sickness and disability
only came in later. That is what I call a very broad or rather
loose test of the contributory principle. I think there is a much
tighter one and there is a narrow sense. When I talk to colleagues
and academics from Europe, they are quite surprised that we regard
the British system as a contributory system at all because the
narrower focus is to say that, if you like, the marginal benefit
you get should be related to your marginal contribution. In other
words, if I put one pound more into the system—I am particularly
thinking of pensions here—I should expect to get a discounted
value of one pound more future pension as a result of that. That
is a much more narrow focus because it says that the actual amount
you put in determines how much you get out. It is quite interesting
that some countries such as Italy and Sweden have been moving
in recent years to making a so-called actuarially fair basis,
much strengthening that basis of their contributory pension system;
whereas of course we have moved away from that. There is one other
obvious point I want to make which we all know about. I have read
some of the evidence of this Committee. It is worth reiterating
that although we have a contributory principle, however tenuous,
there is no sense in which contributions are accumulating in a
fund except in a book-keeping sense. Unlike, say, a personal pension
or a stakeholder pension where contributions are accumulated and
the fund, it is hoped, earns a rate of return and the amortised
value of that fund is the pension, in national insurance the money
that goes in goes straight out to current beneficiaries on a pay
as you go basis. One of the problems facing many European countries
has been that, for demographic reasons and other household compositional
reasons, the number of beneficiaries has risen and the number
of potential contributors has contracted. Reading some of the
evidence, there are a couple of small points. A lot of people
are discussing whether research shows that people think the contributory
system is more popular than other kinds of provision of social
security. One reason is that many people do think there is a pot
of money somewhere in the system with their name on it. That is
why it is a more popular system. Other reasons include the fact
that many people think, according to a previous DSS survey, that
the national insurance contribution pays for the National Health
Service. Another thing which I also therefore think is very important
and which has not been discussed at all in some of the evidence
is the inter-generational incidence. If the money that is going
in is going out to pay current beneficiaries, then there is not
just a question of equity within generations and smoothing over
the life cycle; there is also the question of whether some generations
of contributors and beneficiaries do better than some later generations
of contributors and beneficiaries. Much of the evidence is that
the earlier generations scoop the pot and the later generations
do not do so well. Of course, as the Institute for Fiscal Studies
document has suggested, the contributory principle has been steadily
eroded. It has been made looser and the link between benefits
and contributions has largely evaporated. What other criteria
could we think about? One is obviously a contingency related benefit.
Intrinsically, a national insurance type system is also a contingency
related system because entitlement depends on a contingency as
well as having the requisite contributions. The other basis for
a social security or transfer system is having an income related
system. What the IFS submission and many others have suggested
is that in many areas of provision we have a somewhat arbitrary
mixture of income related, contingency related and contribution
based provision. We cannot see one underlying principle covering
all this. My last point is should we restore or improve or enhance
the contributory principle here. What does the restoration of
the contributory principle mean? It could mean tightening the
threshold for receiving benefits, tightening up that broad basis
and making it much clearer that you have to have a certain history
in order to be entitled to benefits. That would probably put more
people into the means tested sector which, for other reasons,
we might find contentious. Alternatively, we could move towards
a much closer link between marginal benefits and marginal contributions
which is what I understand the contributory principle to be. I
think that is encapsulated in the refrain that I am sure has been
mentioned many times of, "I have paid my contributions; therefore,
I am entitled to my benefits." As plenty of studies have
testified, there is very little link between contributions and
benefits in the system. Government changes provisions, often retrospectively,
and often to increase the marginal returns and contributions.
It has not always been one way traffic; it has tended to be in
the 1980s and 1990s that benefits have been cut back so that people
are saying, "I paid my contribution. How come I do not receive
such high benefits now?" In the 1970s particularly, we had
the opposite. People put in contributions and were actually getting
bigger benefits, in a sense, because of subsequent policy changes—for
example, early retirees getting a much greater than actuarially
fair pension, periods of non contribution like home responsibility
protection being introduced, and over favourable treatment of
labour market entrants. All these things were senses in which
we paid more out than the individual put in. The deviations from
the contributory principle work both ways. In summary, I think
there are many principles that could underlie provision of social
security. The contributory principle I think has more than one
interpretation. Most of our benefits contain the application of
several principles and there is certainly a case for considering
what principles should guide social security as a whole, rather
than piecemeal applications of certain criteria, in some fields
of the welfare reform and application of other criteria in other
parts of the field. Whether the contributory principle should
be the over-arching criterion remains, in my view, and in general
the view of the Institute for Fiscal Studies—though I add
we have no corporate view on anything—unproven.
248. We have been talking to people, distinguished
commentators like Frank Field, for example. His perception is
that people value greatly the contributory element and the fact
that they are able to feel part of the great benefit system. Your
evidence seems to be saying that it is not as easy as that and
the public out there are very confused. Indeed, younger generations
know next to nothing about what the national insurance system
is supposed to do. I know the DSS have done the Bruce Stafford
study in August 1998. I think that is the most recent that I know
of, but are you aware of any recent studies about exactly what
people really believe, either qualitatively or quantitatively,
they are getting for their money when they pay their national
insurance contributions?
(Professor Disney) There is some current work going
on between the Institute for Fiscal Studies and the Department
of Psychology at University College London, using focus groups
to look at what people think they should do particularly for retirement
and particularly how they see the state system working versus
private provision. At the risk of generalising half-read conclusions,
since I am not involved in that study, I think one of the issues
that comes out is young people, certainly in terms of pensions,
do not really expect to get a great deal out of the public system.
Therefore, particularly younger women interestingly, are very
concerned, rather more than younger men. It is slightly macho
not to worry about having a pension if you are a young man but
if you are a young woman there seems to be a good deal of concern
about what is going to be delivered by the system, how things
like divorce and so on would work, what sort of private arrangements
would have to be made to get a reasonable pension at retirement.
If you like, that sort of evidence suggests a high degree of confusion,
from some of the existing evidence among established contributors
to the system, who perceive they are getting something entirely
different from what they are getting; and perhaps younger people
deeply sceptical as to whether they are going to get anything
out of the system at all and therefore thinking that they have
to make some kind of private arrangement.
249. How do you perceive the government's approach?
The government seem to be saying that they are modernising the
system and yet there is a huge focus and yesterday we saw some
of the government's plans to move even more in a tax credit direction.
Do you think that moving in a tax credit direction is inimical
to the long term development future of a national insurance contributory
system?
(Professor Disney) There are two questions in there.
One is: what is the government doing in my view and the second
is: whether tax credit and insurance are related. I think government
policy is certainly moving away from a strict application of the
contributory principle in the sense I used. For example, a proposal
to replace SERPS, which is probably the only residual bit of the
system where, in some sense, benefits and contributions are related.
That is going to be replaced by a second state pension. Much greater
emphasis on in-work benefit and tax credits is a way of getting
people in and out of the labour market and now of course the proposed
reforms to incapacity benefit. Yes, I think you could say that
the government is moving more towards a welfare system that they
think is designed to encourage incentives to work. We might want
to discuss in a minute the relation between income tested and
contributory benefits and how that interacts with that. Therefore,
in answer to your second question, if you went the whole hog,
the tax credit has so far been fairly limited to working families
but if you thought about extending the tax credit system intrinsically
you would be moving to an income related type of provision. If
we generalise that across all kinds of contingencies and then
in that case it would be hard to see that you could have a national
insurance contributory system, because basically entitlements
would then be contingent on income and your labour market state,
rather than your contribution.
Mr Dismore
250. Can we look at the contrast or relationship
between contributory benefits and means tested benefits? There
is a blurring between the two. One of the arguments that was put
to us, for example, by Frank Field last week is that means-testing
can reduce financial incentives to work and contributory benefits,
through earning and contributing, strengthen that relationship.
Do you think that is an analysis that you would agree with or
do you think that we need to look much more at the contributory
principle in that light?
(Professor Disney) It is an analysis I would agree
with except I think it bears little relation to our current national
insurance system. It is true that if we had a system where benefits
were linked to contributions there would be stronger incentives
to save. There might or might not be stronger incentives to work,
but we do not really have a system in which there is any relationship
between your contributions and what you are going to get out of
the system. Therefore, I find it hard to believe that that has
any effect on incentives one way or the other. The whole area
where incentives are important is the issue of benefits to people
in work, which traditionally have lain outside the national insurance
system because the old Beveridge principle was if you were at
work you had sufficient income and there was no need for money
from the government. We have gradually moved away from that towards
a tax credit system. Therefore, the kind of contribution principle
there is irrelevant because all these incentives about how to
get people into work and whether you should offer a certain level
of working family tax credit deal with an aspect where there is
not a contributory principle operating anyway, namely in-work
benefits. You can have disincentive effects without income testing.
The simplest disincentive effect is if I am unemployed and I get
a large benefit from the government, which is no longer the case,
but say it was, and then I move to work, then I would lose all
that benefit. That is a disincentive and it is a disincentive
driven by contingency rather than by income testing. This is definitely
something IFS would emphasise. It is a danger to confuse the axis
income testing versus contributory benefits with the axis disincentive
to work versus to save or work. Contributory systems can have
big disincentives in them. You could design income tested systems
which had lesser disincentives in them. I am not sure; I think
that conflates two issues at once.
251. You mentioned JSA and you have commented
on JSA in your paper. Is it not the position where with a contributory
JSA system you could have a couple where one is working and one
is claiming and, because it is a personal benefit, not a family
means tested benefit, therefore the benefit is kept for the partner
who is not working and the other one still has an incentive to
work?
(Professor Disney) That is true and there has been
some evidence that if you purely income tested unemployment benefit
that would affect the spouse's working behaviour. JSA is not very
large. It is circumscribed by a large number of requirements vis
a vis seeking work and so on. Many of the unemployed are receiving
income tested benefits anyway. That is true. The principle there
is applied but how important JSA is in the whole scheme of unemployment
benefits is problematic.
252. Can I ask you about the point that Frank
Field was also making to us about the willingness of people to
make self-provision and that means-testing effectively undermines
people's willingness or incentive to save for their old age or
whatever?
(Professor Disney) Means-testing does discourage you
from saving. The only qualification I put to that is that the
people most affected by means-testing would probably not have
saved much anyway. Most of the saving for retirement that goes
on goes on by people who in general would not qualify for means
tested benefits anyway. It is certainly true that if you means
test you will reduce saving. If I was investing in a stakeholder
pension or something and I knew that the money I put in would
ultimately increase my pension, that would have a bigger effect
on my saving. You always make that comparison, I agree, but when
you look at national insurance my point is it is neither one thing
nor the other. It is not clear to me that by putting more money
into national insurance I deliver that much in the end. That is
the sense in which it is not a self-saving system in the way that
you could think of a pension system being.
253. What about take-up of contributory benefits?
It is higher.
(Professor Disney) Absolutely. Take-up is partly stigma,
choice, things we worry about. Take-up is also partly a question
of how much benefit you are entitled to by taking up. One of the
reasons that take-up—I am not saying the only reason—was
low was that for many people, say, the difference between the
basic state pension and income support was 50p. As the minimum
income guarantee gets indexed to earnings, assuming that will
continue, and the basic pension gets indexed to prices, in a sense
the incentive to take-up gets that much larger, at least from
the point of view of an economist. I do not know about the world
out there but the take-up rates ought to increase because the
attraction of taking up is going to increase.
Mr Leigh
254. You are saying that the contributory principle,
as far as retirement pensions are concerned, if not dead, is the
living dead. Are you saying that we should just recognise that
or what?
(Professor Disney) Yes, I would say it is pretty much
dead. Forget the living bit, personally speaking.
255. We should just recognise that and admit
it to people, really?
(Professor Disney) I think we should admit to people
that there is not a little pot of money with their name on it
unless they have invested in some kind of stakeholder pension
or personal pension and therefore it is not entitling them to
anything.
256. It is a kind of benefit or present you
get when you become 65?
(Professor Disney) It is a device for raising money
because people do not like paying taxes. They think that if they
pay contributions somehow they have a greater entitlement than
if they paid income tax. The question we have to ask is: you can
make the argument, "I have paid contributions all my life.
I ought to get more pension." Why not make the same argument:
"I have paid income tax all my life. Why do I not get a pension
I deserve?" To me, they are almost identical statements and
it is only because people are persuaded either that they are financing
their own benefits, or perhaps indeed that the national insurance
contribution is paying for other things like the National Health
Service, that people are prepared to pay this. It is dangerous
because it is giving people a misplaced sense of security because
they are thinking that by paying these contributions they are
getting a pot of money at the end and all the past 20 years have
shown us that nothing is guaranteed in the system at all. It is
giving people a security which is quite illusory.
257. You think this might help because if you
were honest about this to people, that their so-called contributions
are meaningless and they will get some little pension from the
state but it will not be based on contributions; it will not be
a living wage, you think this could be helpful because it will
encourage people to make prior provision? Is that what you are
saying?
(Professor Disney) As I suggest, this focus group
analysis may be suggesting that young people may be thinking,
"The future pension I am going to get out of the state is
not that large, so I have to make private provision." I am
in favour of transparency in everything really. I can see politically,
if people are more prepared to pay one tax than another, it seems
understandable to encourage them to do that, but the principle
there is an illusion. Maybe it would be better to say, "Look,
this is the sort of pension you are going to get when you retire.
Your contributions may or may not entitle you to more pension.
It depends on the government of the day. Really, if you want to
be secure, you should go out and make some private provision as
soon as possible", suitably regulated and so on. That is
a separate committee, presumably.
258. From the various surveys that you have
been involved with, you think that people have enough confidence
in the private pension industry?
(Professor Disney) No, I do not think they have because
I think a number of governments and indeed different parts of
the pension industry have in some ways sought to undermine other
parts. We have a very complicated system of private provision.
This slightly detours from this Committee, I recognise, so I will
not go into it but I think private provision is immensely complicated.
People do regard it as a risky option but they say, "I do
not have any security from the government option either because
I do not think, if I am young, I am going to get much out of the
system, so I have to make some provision. Should I buy a stakeholder
pension, a money purchase scheme, a personal pension or do something
else?" It is an incredibly difficult decision to make. We
have not helped make that decision.
259. You think we are deluding ourselves if
we think that there is a great principle behind the national pension
system and pooling of risk?
(Professor Disney) There are some principles. I do
not want to be completely iconoclastic. One is the principle that
not everybody should be risk rated and that the scheme should
be mandatory. In other words, by having social insurance, we accept
that some people will do a bit better than other people out of
the system within a generation. Women live a bit longer but we
should not penalise them, if you like, by making them pay higher
contributions. You can think of various social insurance aspects
which a private system would not do and you can also think that
the way in which you finance and run your pension scheme has implications
for which generations do best. Again, you can use your public
pension to ensure that one group of people, when they retire,
do rather better than another group which a private system presumably
could not, because it would just have to deliver whatever the
stock market delivered. I am not saying that there is nothing
intrinsic to publicly provided insurance other than what is in
a private insurance system. I think that is wrong. There are things
that are different but there are other things which I think are
just confusion.
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