Examination of Witnesses (Questions 100-112)
MR DICK
SAUNDERS, MR
STEPHEN HADDRILL
AND MS
CHRISTINE FARNISH
25 APRIL 2006
Q100 Angela Eagle: Christine, do
you have a worry about the fund not even breaking even on an optimistic
assumption until 2035? It is a huge potential reform of performance.
It seems to be balanced on a knife-edge in terms of its desirability
when you look at the size of fund and whether it breaks even.
Ms Farnish: I think there is a
very big question mark of uncertainty about how much it might
cost, at the end of the day, to set up the sort of fund envisaged
by the Pension Commission and to run it. The track record of doing
very large national assistance of this sort is not a particularly
happy one, which is why I think many of us on this side of the
table would prefer this country's pension system to be a more
evolutionary one and to build on more of what we already have.
That has certainly been our starting point.
Q101 Peter Viggers: You talked about
employment patterns, which are important, and the change in employment
patterns with people having half a dozen jobs during their careers
and needing to be able to transfer their pension points easily
and without undue expense. Would you very briefly explain how
you would see a change of employment affecting pensioner rights
and the costs in each case?
Ms Farnish: Shall I start with
our model? Under our model, as you know, we are suggesting a limited
number of super trusts, into which employers could automatically
enrol their employees, perhaps 10 of them across the country;
those could be either national or sector-based. If someone moved
from one employer to another, it may well be that they were a
member of the same super trust, in which case the question you
ask would not arise. If it was a different one, then there would
be a simple transfer of the DC pot with the individual from the
super trust where they were enrolled into the one where their
new employer was enrolled. That costs around 30 pence per account
currently between large DC schemes, so it is not a particularly
expensive process.
Mr Saunders: This is a very important
point because the target market for this is those employers that
have empty stakeholder schemes, and those are essentially small/medium
enterprises. It is in that sector of the economy that you see
the highest rates of employee turnover and also the highest rates
of company mortality. I have seen figures suggesting that every
year one in eight employees in firms below a certain size—I
cannot remember now whether it 20 or 50 employees—sees their
employer go out of business during the course of the year. That
is a very high turnover of employers. It is absolutely central
to this that this has to work seamlessly. That is the great advantage
of a centralised national pension savings scheme because it gives
you that single point of contact for all employers, so there is
a single account for any individual, no matter who their employer
is.
Q102 Peter Viggers: So no change,
no effect?
Mr Haddrill: I think you would
want to have complete portability of the pension pot within the
NPSS. That is very important. As we were saying earlier, it can
be done within the system and must be done within the system that
we are proposing. There is a problem with transfers from outside
of the NPSS into it. That is partly because it increases the risk
of employers in effect coming down to the NPSS level. Also, I
think it is not that straightforward to convert a DB existing
scheme into a DC NPSS scheme. There are problems with transfers
in and out but portability within is very important.
Q103 Peter Viggers: Do you see any
difficulties transferring in and out with bulk transfers?
Ms Farnish: We are talking here
about DC bulk transfers, not DB, for the reasons Stephen has given.
Certainly for many years to come, it is going to be very difficult
for there to be an acceptable mechanism to convert DB benefits
into DC benefits in a bulk way, maybe sadly because it could solve
some of our legacy problems, but there you go. DC bulk transfers
would be possible for super trusts, and indeed if it is generally
the view in policy terms that low charges are very important for
consumers saving in DC pension arrangements, which I think most
of us would now accept, there is a very strong case to allow and
permit and design a system to allow the existing defined contribution
pension accruals to be transferred into whatever new system finally
materialised that is well run, well governed, low charge and in
the interests of consumers. If we were to have such a system,
then you could envisage those sorts of transfers. One of the advantages
possibly with having more than one institution, a number of super
trusts rather than a single NPSS, is that you do not have to cap
the amount of money in it because there would not be the risk
of market distortion in the way you might have with a single institution.
Mr Saunders: I would be quite
cautious about bulk transfers in because if they began to take
place on any scale, then there would at least be a risk of over-concentration
and implication for competition in the existing retail financial
services market. That would need to be looked at very carefully
before one were to allow that in any way. As to bulk transfers
out, which you could perhaps conceive of if an employer decided
to set up a scheme of its own, I see less problem with that as
a principle, although it would tend to increase administration
costs, so again that would need to be factored into any decision.
Mr Haddrill: I agree.
Q104 Peter Viggers: Taking up one
point, reference to bulk transfers and defined benefit schemes,
the Pensions Regulator has insisted on a transfer level which
has shaken some people who have commented on this view. Do you
see perhaps defined benefits schemes as it were withering on the
vine rather than being subject to bulk transfer?
Ms Farnish: Many company sponsors
that have large legacy defined benefit schemes are facing a huge
challenge as they project forward as to exactly how much that
scheme is going to cost them and the risks involved in it. Many
of them are looking for alternative ways to get those risks and
costs managed that can take it away from their own company in-house,
obviously. As you say, the regulatory regime currently makes that
an incredibly expensive task. We need to have a further debate
about how the existing liabilities in defined benefit schemes
can best be managed for the future. I do not think we have reached
the end of the story on this. The regime changed very dramatically
three years ago when the rules changed on solvent wind-ups. I
am pretty certain that those rules will need to be re-visited
at some point in the future if we are to sustain many employers
and create jobs in this country without undue costs on their shoulders
for perhaps a minority of consumers.
Q105 Peter Viggers: I switch to another
point. The assumption in the Turner Report is a non-persistency
of some 2.5%. Do you think that is reasonable or what would the
impact be if it is not in accordance with Turner's estimates?
Mr Saunders: As I said earlier,
we have not done any modelling on persistency, so I cannot really
comment on Ned Cazalet's 10% versus Turner's 2.5%. Clearly, this
is one of the important factors in doing the arithmetic, but only
one of the factors. Admin costs are also an important part of
the equation, and collection costs as well. Overall, I do not
think that more pessimistic assumptions about persistency would
torpedo the scheme at all. It might mean that the scheme needs
to operate at a slightly higher cost than it otherwise would,
but it is important in this not to start with a predetermined
idea of what the costs are going to be. We all have a feel for
what they are. We think they will be somewhere between 0.3% and
0.5 % but we should not select a number and try to work back from
that. We have to allow competition in the provision of services
to the scheme and then the costs will emerge from that process.
It is difficult to start with a particular price cap of 0.3% or
0.5% or 0.8%, or whatever it is.
Q106 Peter Viggers: The Swedish system
has been much quoted because it is rather similar to that which
is proposed. Have you looked at this and do you think it teaches
us any lessons?
Mr Saunders: Yes, indeed, we have
looked at it very closely. An important difference between the
Swedish scheme and what we are saying is that the Swedish scheme
starts with a fund platform which has 700 funds on it. We are
not suggesting that at all because we think that will just confuse
people. We think it is much more important to focus on the default
fund. In terms of cost, there are some very interesting and important
pointers in the Swedish scheme. The default fund in the Swedish
scheme is currently charging 15 basis points, that is 0.15%, for
fund management. It is quite a small fund at the moment and that
is likely to fall as the fund gets bigger. In terms of administration
cost, the PPM, which is the central agency which runs it, is charging
something over 20 basis points at the moment for admin. However,
the important point about admin costs is that they decline in
percentage terms as the assets under management increase. Admin
costs are, broadly speaking, fixed in cash terms. It costs the
same to manage an account that has £1,000 in it as it costs
to manage an account with £10,000 in it, but as a percentage
obviously in basis point terms that £10,000 account is one-tenth
of the cost of the £1,000 account. As the scheme grows, the
admin costs will decline automatically, in accordance with the
laws of arithmetic. They are projecting that by 2020 the admin
costs will decline to something like 5 basis points. That is the
basis on which they are saying that for the default fund by 2020
they expect to see costs of less than 20 basis points.
Q107 Mr Gauke: What do you see as
the role of the FSA in your respective models?
Mr Haddrill: We see a very important
and continuing role for the FSA in making sure that the providers
or the fund managers are properly solvent, and so on. That needs
to continue. We believe that if you have a model, as proposed
by Turner, where there is complete suitability of the pension
product for everybody, or almost everybody, then what you do not
need is the sort of conduct of business regulation. We do feel,
and I think Lord Turner feels and everyone feels, that if you
have to import that, then you will add unacceptably to the costs.
You are certainly not going to achieve the kind of 0.3% to 0.5%
figure that he has been talking about.
Mr Saunders: In terms of a centralised
NPSS, I would very much agree with what I understand the FSA to
have said: that provided there is a straightforward, simple interaction
between the state system and the means testing and NPSS, then
the need for advice about whether or not you are in the scheme
largely falls away because there is a clear benefit to joining
the scheme. That benefit is the employer contribution that is
made to you, which you would not otherwise be benefiting from.
In a central NPSS, with that caveat, then I would see relatively
little need or room for regulated advice. Having said that, I
think one of the things you would want the NPSS to do would be
to make available a very wide range of educational material and
information for the members of the scheme, for the public.
Ms Farnish: I have little to add.
A lot does hang on the extent to which the state pension system
can be reformed so as to reduce the extent of means testing. If
we fail to do that, as part of this pension reform process, then
any system into which the vast majority of working people are
auto-enrolled is doomed to fail. It is absolutely crucial that
the state pension system, which will underpin the funded pension
system, becomes a simpler system and one which is more predictable
for people to provide the basic bedrock on which they can then
take that decision to save and auto-enrol. As long as that is
done, then the FSA role is as has been described. Clearly, if
we ended up with a system whereby commercial providers, whether
they were insurers or anyone else, were designated as people into
whom the funds were auto-enrolled, then we would need a much stricter
regulatory regime than the sort of model perhaps that we have
put forward, or the Turner model, whereby there is an institution
acting on behalf of consumers that is a powerful institution in
the market with a job to protect the consumer interest, that can
really start to provide more of a balance of power in the retail
market than we have had up until now.
Q108 Mr Newmark: Can I ask perhaps
the other side, and I do not know whether Stephen Haddrill wants
to respond to that point, but perhaps in doing so both Richard
Saunders and Stephen could answer the point that I think Christine
has made that it is crucial that we simplify the means testing
state pension in order to negate the need to have a suitability
test. How important is this suitability test? Does it make it
a complete non-runner if you have to have regulated advice in
this area?
Mr Haddrill: It is not a non-runner
but it is a non-runner at the kind of costs that people are trying
to achieve. A suitability test is absolutely fundamental. If it
is suitable for everybody, then I do not think you need regulated
advice, as Christine was suggesting. Yes, certainly for people
probably up to about the sort of £15,000 a year level, it
would not be suitable without some progressive reduction in means
testing over a fairly rapid period. Yes, you are absolutely right.
Mr Saunders: If means testing
persisted by the time this scheme was up and running, then it
would be a non-runner. I would not introduce this scheme if there
was substantial means testing in the state pension system. Having
said that though, there is time to sort this out. Assuming that
legislation goes ahead to implement this, we are probably looking
at five years before NPSS even starts, then another five or 10
years with people building up substantial pots and coming up to
retirement. That gives quite a long window in which to sort out
the state pension scheme. To return to the question that was Mr
Cousins asked Mick McAteer, whether that means the Turner package
or something else, I do not know. I do not have a view on that;
Christine might. There ought to be a clear objective that by about
10 or 15 years down the track we want to see the extent of means
testing within the state pension scheme to be at a minimal level.
Mr Haddrill: I do not agree on
the point about time because people are not saving enough now
for their retirement and the longer that goes on, the less they
will have in retirement. From the point of view of the individual,
I think there is a concern. The other concern, which is one for
individuals but also for the industry, is that the longer this
debate goes on, then potentially it overhangs the existing savings
market. It could damage the savings market with people not sure
whether they want to buy an existing product or they want to wait
for this to come along.
Q109 Jim Cousins: Could I put a slightly
different form of my question to Mr McAteer to you, particularly
in the light of what you have just now said? If the Government
cherry-picked Turner in the sense that it committed itself to
an auto-enrolled national pensions scheme, but had not committed
itself to Turner's proposals for the basic rate of state pension,
would you be prepared to operate your scheme under those circumstances?
Mr Haddrill: Probably not because
what we would look for the Government to do is to take some decisions
on the reduction of means testing before we would operate the
NPSS or before we would think it should be operated. It is very
hard for the Government to take decisions on means testing without
having decided what to do on the basic state pension. I think
those two must go together.
Mr Saunders: If I may answer a
slightly different question, I think in terms—
Q110 Jim Cousins: The purpose of
parliamentary scrutiny is that you bring yourself to answer the
questions that are actually put to you. I have asked you: would
you be prepared to operate your scheme that you have advocated
this morning if the Government had committed itself to the second
bit of Turner, the National Pension Savings Scheme, but not to
the first bit of it—had not committed itself to the first
bit of Turner, which is a major increase in the basic rate of
state pensions? It is very simple. Would you be prepared to operate
your scheme under those circumstances?
Mr Saunders: If you come along
to a fund manager and say, "We have £10 billion of assets
here. Will you manage these for us, please" the manager will
say yes, obviously, but would that be a good idea from a public
policy perspective? I think the answer is unequivocally no.
Ms Farnish: My answer is no.
Q111 Chairman: Assuming the NPSS
or something based on it is introduced over the next five years,
what impact do you expect that to have on the current pensions
and indeed savings market?
Ms Farnish: That depends on how
it is done, Mr McFall. Provided it can be done in a way that consumers
believe is going to give them a fair deal and the system is one
which they feel they can trust and have confidence in and it is
not going to change and get fiddled with over time, then I think
we will end up with a far better system than the one we are heading
to. It is going to be very different from where we have come from
but I think we could still make a success of defined contribution
pension savings in this country with sufficient thought and planning.
It is critical that we do because, as I said at the beginning,
we are seeing a very seismic shift here between the sort of way
in which the risks in the pension system are going to be falling
from where we have come from to where we are going.
Mr Saunders: I would agree with
that. The impact of the NPSS in economic terms on the current
long-term savings pensions market will be modest because the numbers
involved are quite modest. Even after 10 years, the NPSS might
have something like £100 billion funds under management.
That will be about 3% of what IMA members currently look after
on behalf of their clients. The flows into the NPSS are estimated
by Turner to be about £8 billion a year. We published figures
yesterday showing that there were net flows into UK retail mutual
funds of £4 billion in the first quarter alone last year.
So the numbers in NPSS are not large. The impact of NPSS will
not be large, given the almost seismic forces which are now driving
change in the occupational pensions market which Christine has
talked about.
Mr Haddrill: It can be very beneficial
if it draws people who are currently entirely focused on credit
and debt into saving and gets them started because it a simple
product that serves their basic needs. That could lead into people
saving more in other ways. The risk is that it becomes seen as
a kind of Government blessed standard for occupational pensions
and that employers then reduce their contributions down to that
kind of level, and that would be very damaging. That is why some
separation of the two markets is necessary.
Q112 Chairman: Lastly, do you agree
with the view that the more choice, the greater the propensity
for regulation. The question underlying that is: what can you
do to keep the FSA out of it?
Ms Farnish: I think I will give
you that.
Mr Saunders: I would agree with
that, Chairman.
Mr Haddrill: We feel there is
a role for an economic regulator and he will make sure that there
is a balance in choice.
Chairman: May I thank you for your appearance
this morning. It was not as lively as the first session but just
as revealing and highly civilized.
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