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Rob Marris (Wolverhampton, South-West): I am listening carefully to the right hon. Gentleman's thoughtful speech. Is he aware that the system that he is describing exists in broadly the same form in Canada, under the Canada and Quebec pension plans? If so, will he tell us whether he thinks it is working there?
Mr. Lilley: It would be truer to say that the system that I propose has counterparts in Australia, where everyone is now required to have a personal or occupational pension fund and is compelled to make a minimum level of provision. That has demonstrated one of the benefits of my proposed scheme. When everyone owns his or her pension, with ownership comes greater choice. It is easier for people to choose to save more. They need not go through the hassle of setting up pension funds, because they have them automatically. They can make marginal extra contributions if they
wish—and in Australia the level of additional voluntary contributions has doubled since everyone has had his or her own fund.
Mr. John Horam (Orpington): I am interested in my right hon. Friend's proposed scheme. How would he deal with the low-paid worker who finds it difficult to save any money at all?
Mr. Lilley: As under the present state second pension scheme, the low-paid worker would receive a flat-rate rebate. At present, he accrues flat-rate pension entitlement. If he earns less than half average earnings, he is treated on the assumption that that is the case. Under my scheme, he would receive a rebate on the same basis—a flat-rate rebate. Even if no additional voluntary contributions were made, everyone would be able to save enough to be free of means-tested benefits; but people would find it easier to save more, and I think that many would take advantage of that.
The third question is, how long should people be required to work before drawing a pension? If we do not adopt a scheme like the one that I propose, the Government will be able to achieve their objective of enabling 60 per cent. of pension liabilities to be met from genuine savings only by postponing retirement—by reducing the amount that people pay by making them retire later. That is the only arithmetical possibility, and the Government are clearly edging, or nudging, in that direction.
One great advantage of everyone having his or her own fund is choice. After all, this should not ultimately be an issue on which the state makes the decision. Whenever possible, the individual should be free to decide how long to work and when to retire. When people have their own funds, once those funds are sufficient to ensure that they require no additional state benefits, they should be free to retire—but once they have the funds, they will have a double incentive to work for longer. For every extra year they work, they will be able to make an extra year's contribution, or have it paid automatically into the fund if they choose. As they will have one year's less pension requirement to fund, they can look forward to a higher income in retirement.
The present system is not fair on those with low incomes and in manual or stressful occupations, who tend to have the lowest life expectancy. The life expectancy of manual workers retiring at 65 is four years shorter than the upper quintile. Although they are paying into the system on the same basis as everyone else, they are drawing out four years' less money. At present, the annuity providers accentuate the problem, because annuities are based on the life expectancy of those who buy them and are thus geared towards the long-lived rich, who are artificially subsidised by the less long-lived and less well-off. I should like the providers to be able to produce annuities that reflect average incomes during people's working lives and that correlate with their life expectancy. It would be easier if we could provide information from the national insurance recording system computer, such as an income tax code number giving a coded overall picture of lifetime earnings. The least well-off would then be in a better position to choose what to do in retirement, and consequently to enjoy a more prosperous retirement.
The fourth question is, how can we cut the costs of pension provision—costs that are absorbed by administration or other measures and do not go into saving and investment to provide for the future? The stakeholder pension schemes were designed to help to achieve that by setting a cap of 1 per cent. on costs, and I hope that the Government will think carefully before relaxing that; but it has not worked, because stakeholders have not spread the costs over a greater volume of savings.
In fact, the single most effective way of reducing the cost of providing funded pensions would be to make them compulsory. If everyone has a pension fund, there will be a larger volume of savings over which to spread the costs. More important, between half and two thirds of the costs at present are absorbed by the costs of acquiring customers. If customers are delivered on a plate, those costs will be greatly reduced, and in some cases eliminated.
Mr. Edward Davey (Kingston and Surbiton): I hoped that the right hon. Gentleman would speak today, because he has thought long and hard about a long-term vision. But will he comment briefly on the short-term policy that we are discussing today? His policy was price indexation, while that of his hon. Friend the Member for Havant (Mr. Willetts) is earnings indexation. Will he now give us a ringing endorsement of earnings indexation?
Mr. Lilley: My hon. Friend the Member for Havant correctly identified the big problem. A huge gap, which did not exist in the 1980s when we ended the earnings link, has opened between the basic state pension and the level of means-tested benefits. I propose filling that gap with compulsory funded savings, and my hon. Friend hopes to reduce it by restoring the earnings link. It must be done in one way or the other, and I think that my proposals and those of my hon. Friend are compatible, based as they are on a common analysis. I am only sorry that we heard nothing from the Liberal Democrats about what they propose to do, this being an issue in which creative thought rather than party political point scoring is needed, although, to be fair, the hon. Gentleman is less prone to party political point scoring than many of us.
Lynne Jones: The right hon. Gentleman will correct me if I am wrong, but he seemed to be saying earlier that people at the lower end of the income scale might be forced to make contributions to private pension schemes in order to retire on an income similar to that of means-tested benefits. Why should people obtain better value for money by doing that than they would obtain by contributing more to a state scheme that assured them of a decent pension in the first place?
Mr. Lilley: I commend my pamphlet, which may explain what I mean more clearly. The essential point is that we compel everyone in employment to contribute to a state second pension. At present, that is done on an unfunded pay-as-you-go basis; we hope that the amount will subsequently be met from future taxation, but I should prefer it to come from savings that have
accumulated through investment and to be underwritten by the taxpayer, so that the target level is a certainty—the target level being higher than the current compulsory level, which leaves people still subject to means-tested benefit. I hope that that explains the matter a little more clearly than I had evidently done up to now.I return briefly to the point that I was making about reducing costs. Compulsion will reduce costs. In Australia, despite the fact that I have many criticisms of the Australian system and the fact that it has not paid much attention to reducing costs, overall costs have been steadily falling and are down to the sort of level that the Government are talking about for stakeholder pensions, because of the increasing volume over which those costs are spread.
There is one aspect to which little thought has been given as to how we can reduce the costs. After people have accumulated their pension fund, it is converted into an income for the rest of their life—an annuity or a pension income. Annuity or pension provision is a good way of pooling risks within a population with known characteristics. We know the mortality rates on average for the whole population and we can pool them. The annuity companies do that and pay out, taking that into account.
There is no effective way of taking into account the possibility that the characteristics—the mortality rates—of the population as a whole may change in unexpected ways in the future. The companies have all been caught out because longevity has increased more rapidly than they anticipated. They therefore have to make provision not for the best estimate of future longevity, but for conceivable but unlikely increases in life expectancy that may occur. If they do not occur, people will be paying for something that they never receive, so they will be paying too much.
Since the greatest risk about unexpected future life expectancy is that people will live beyond, say, 85, my proposal would require that they provide themselves, through the state rebate system, with a funded pension for the first 20 years of retirement, and that, after that, the state resume paying on a pay-as-you-go basis for the over-85s at a similar rate to that guaranteed for the years prior to 85. That would mean that the state was bearing the risk of unanticipated increases in future longevity, and that it would not be borne by people who subsequently get no benefit from it.
I believe that the proposals that I am putting before the House are compatible with those advanced by my hon. Friend the Member for Havant and are based on a similar analysis. They would mean the greatest extension in wealth ownership that this country had seen since the spread of home ownership. Everyone would own a pot of money that was theirs. If they died prematurely, they could leave it to their heirs and successors. They could add to it and would have an incentive to do so. They would have a stake in the wealth-creating system because they would know that they, through their pension pot, would benefit from it. That would transform relations between people in this country and the economic system in a way that was profoundly to the country's benefit.
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