Examination of Witnesses (Questions 40-59)|
1 NOVEMBER 2006
Q40 Mr Newmark: Although that says
where government risk is versus corporate risk.
Mr Daykin: I do not believe it
has any relevance because it is purely the marginal transaction
rate of those who happen to be buying and selling gilts in the
open market on that day.
Q41 Mr Newmark: Is what you are saying
then that the choice of discount rate for pensions is just an
academic nicety rather than anything that has a potential real
impact in the future?
Mr Daykin: You could say that
for the FRS17 as well. It is an accounting device for putting
a value on liabilities which are going to fall due over many years
into the future. The accountants have decided that is an appropriate
way to value it for the purposes of the balance sheet; it has
many advantages in terms of objectivity; it has many disadvantages
because that value has no real meaning in terms of actually paying
the liabilities in the long term, and the approach within government
has been to align with the private sector approach so as to have
a similar measure.
Q42 Mr Newmark: Neil Record, a former
Bank of England economist, wrote: "By using too high a discount
rate in its sums, the Treasury was able to undercharge state employers,
such as the NHS, for their pension contributionsleaving
more money for current improvements to public services but obliging
future taxpayers to pick up the tab". Do you want to comment
on that observation?
Mr Daykin: I do not see that it
has any truth in it because the method of financing and the method
Q43 Mr Newmark: So Neil is completely
wrong. Is that what you are saying?
Mr Daykin: Neil has, let us say,
some particular views, and we have had many conversations with
Neil. I am not sure where he is coming from on that particular
point because the long-term cost and the determination of contribution
rates for public sector workers and for employers has been carried
out on the basis of long-term assumptions, just as is the case
in the private sector. That is not the FRS17 basis and would not
be in the private sector either.
Q44 Mr Newmark: So your view is,
it is not an accounting device to shift, effectively, liabilities
from one area to another? That is what he is saying, effectively.
Mr Daykin: No, we have complete
transparency in that area, and always have had.
Q45 Mr Newmark: But we do not have
transparency because a lot of it is off balance sheet. Anyway,
I will go on to another question. How do you respond to the Institute
of Economic Affairs' contention that their pensions have been
under-priced when staff have transferred to the private sector,
which has penalised those staff, benefited their employers and,
presumably, also cost the taxpayer money?
Mr Daykin: I will start and then
I will pass it over to Andrew in a moment. I think one has to
bear in mind there are two elements to the machinery of government
transfers, PPP, PFIall the different ways by which staff
have been transferred out. Firstly, there is a government policy
to achieve broad comparability in respect of future accrual of
benefits. I do not think that that can be what you are referring
to there because that is for the future; it is in terms of making
sure that the benefit structure is comparable to that provided
within the public service. The other element is the possibility
that some past service liabilities may be transferred out, and
give rise to credits in the receiving scheme. Those arrangements
are subject to the whole process of negotiation, if you like,
of the contract, of which pensions is only a part.
Mr Johnston: The Government is
quite clear it wants to be able to allow those who transfer employment
through PPP or PFI to be able, in broad terms, to have year-for-year
credits in the pension scheme to which they would be entitled
in the private sector. In order to achieve that it is prepared
to make available what are known as "book transfer terms"
which are special transfer terms which reflect the costs on an
ongoing basis of providing those benefits which are transferred.
Indeed, as Mr Daykin says, those are part of the negotiations
which take place when the contract is let. By and large, contractors
accept the terms which are offeredterms, I might say, incidentally,
which are agreed jointly with ourselves and Hewitt Bacon &
Woodrow who advise PCSPS because they have a number of these transactions
as well. Generally speaking, this is not a difficult area. Substantial
sums have been paid in the past by government to private sector
schemes and that continues to be the case as part of its policy
of making sure that employees' pensions have this option available
to them and can take advantage of it if they wish to do so.
Q46 Mr Newmark: During the initial
consultation on the Morris review, GAD argued that, in the context
of PPP and PFI, only GAD should be responsible for signing off
the assessments of broad comparability of new private sector employers'
pension arrangements to those of existing public sector employers,
because "most firms would be too conflicted" to undertake
such assessments. Do such concerns about potential conflicts prevent
GAD from seeking additional income in this area?
Mr Johnston: I think "concern"
remains the case. A lot of contractors these days are regular
contractors (they apply for many contracts) and we developed a
process which is now known colloquially as a passport system where
contractors apply to us for pre-certification for broad comparability,
so that element of the package is dealt with very economically
for all concernedwe do not have to keep explaining
Q47 Mr Newmark: On the issue of conflict,
which I am particularly interested in?
Mr Johnston: We are free from
conflict in this area, uniquely so. We are not advising contractors
and their bidding process, which I think is the key element you
were trying to elicit.
Mr Daykin: Our concern was also
that if a private sector firm were to offer such a passport facility
it would be very difficult for them to avoid conflict because
they would also be advising contractors, whereas we can offer
the passport facility and, because we do not advise contractors,
we do not have a conflict, and so it seems the most natural way
forward. The problem will only arise if the contractors go down
the route of seeking a passport from somebody other than us, which
I guess they are free to do but then there will be a question
as to whether the organisation contracting out the service would
recognise such a passport.
Q48 Peter Viggers: When you were
responsible for the Principal Civil Service Pension Scheme you
carried out your actuarial calculations on a basis which required
a certain amount of money to be notionally reserved by government.
When the transfer to a private sector actuary to be responsible
for the actuarial service for that scheme took place and the actuarial
system known as Superannuation Contributions Adjusted for Past
Experience was introduced it was not the initiative of the private
sector actuary, it was a Treasury initiative. Can you confirm
Mr Daykin: Yes, the SCAPE system
was a Treasury initiative which was applied to all the public
Q49 Mr Gauke: May I ask how have
GAD's sources of income changed since the implementation of the
Mr Daykin: I think the short answer
to that is not by very much. The income sources fluctuate slightly
from year to year because of large projects in different areas,
but the broad analysis between the different sectors has remained
unchanged. Perhaps I can ask my Finance Director to comment briefly
on how it does break down.
Mr Down: The areas that were really
affected by the Morris review that transferred out were the areas
that were funded through the Parliamentary grant. So in terms
of our fee income from clients, that has remained fairly much
the same. Broadly, about 75% of our income comes from the public
sector and the remaining 25% from the private sector and overseas
work. There have been a few things around the margins but in terms
of percentage points we are talking about one or two percentage
point changes in any area. So it has held up.
Q50 Mr Gauke: Are your clients effectively
the same institutions, or have you gained a few, lost a few?
Mr Down: It is effectively the
same institutions. The competition that we expect may eventually
come from this has not kicked in yet.
Q51 Mr Gauke: Would it be fair to
deduce from that that GAD has been pretty competitive in what
it does, given that government departments can go elsewhere now?
Mr Daykin: I believe we have always
been competitive, and the extent to which we have had massive
demand over the last year or two suggests that our potential customers
still think that we are (a) competitive and (b) providing the
sort of service they are looking for. Within the UK public sector
our client base is pretty constant. It varies from year to year
because sometimes there will be a major activity going on in one
area and sometimes in another. Internationally, it is a bit more
fluctuating because we have some projects which we gain through
open competition, and then it is a particular project, and then
we will get another one and another one. So the actual mix of
clients will change a bit, although again in the international
field we have some constants of substantial clients who are using
our services year after year.
Q52 Mr Gauke: Peter mentioned earlier
the fact you have lost the Principal Civil Service Pension Scheme
job. What assessment have you made as to your prospects of retaining
your role as scheme actuary with regard to other large public
Mr Daykin: It is difficult to
make a probability assessment. I think the probability is good.
We consider that if we continue to give good service and good
value for money then many of our public sector clientsand,
hopefully, most of themwill remain with the GAD. However,
because there is always the possibility that they might go elsewhere
we feel it is incumbent on us to broaden our base as far as possible,
to have an objective of softly marketing our services so as to
be able to expand our demand, and to work with clients to give
them more services and to encourage them to use us for different
purposes. So I think we feel that the future is pretty secure
but, of course, we cannot be sure.
Q53 Mr Gauke: Are there any jobs
which are particularly big which would have a substantial impact
upon your finances were you to lose them?
Mr Daykin: There are some government
departments for whom we do a very large amount of work I suppose
the National Health Service is one of our largest clients. We
do a huge amount of work for the Department for Work and Pensions
but it is spread over a number of different issues. We have worked
on the basis that our future is most secure if we are diversified
and if we have a wide range of clients, and we are working to
Q54 Mr Gauke: Just looking at the
performance targets in your Spring 2006 Departmental Report, it
looks like a fairly substantial increase in administration costs
of 17% at the same time as relatively modest growth in the number
of central government and wider public sector clients. How do
you expect to generate the extra income to cover the growing admin
Mr Daykin: I do not think our
admin costs are growing significantly. There was a bump-up because
of the increased cost of accommodation when we were thrown out
of New King's Beam House and had to find our own accommodation,
but generally speaking we have been making savings on our administration
costs. That is part of the efficiency savings. We have some shared
services activity where we are providing services to other organisations.
So the overhead costs should in the future fall as a proportion.
Q55 Mr Gauke: The figure I have here
is total gross administration costs, a planned increase of 17%
on GAD's admin expenditure for 2006-07; a 29% increase over two
years to 2007-08.
Mr Daykin: You are looking at
the Spring Departmental Report.
Q56 Mr Gauke: Table 5.
Mr Daykin: Maybe I misunderstand
you. The gross administration costs in that table are mostly the
salaries of actuaries, and the more actuaries we have the more
income we gain and the more profit we make. So the bigger we can
get that number in the future the more profitable we will be.
I think you were, perhaps, thinking of them in terms of an overhead.
That is not the overhead, that is the total salary cost, the vast
majority of which is actuaries and actuarial staff who are giving
Q57 Mr Gauke: Can I ask about charge-out
rates? How do you compare to your private sector actuarial competitors?
Mr Daykin: That is quite difficult
to determine because our competitors are not very open in telling
us what their charge-out rates are. Our understanding is that
our charge-out rates are competitive across the board, and certainly
at the top end we charge significantly less per hour than many
of our competitors. Anecdotal evidence suggests that is also true
at the non-qualified actuary level. One of the difficulties of
comparison is that our clients are mostly using us for pure actuarial
services whereas our competitors in the private sector are not
usually selling unbundled actuarial services; they are selling
actuarial services, consulting services, investment services,
communication services and that enables them sometimes to disguise
their costs in a different way. If it comes to pure actuarial
services we believe we are cost-effective.
Q58 Mr Gauke: Do you distinguish
in your charge-out rates between private sector clients and public
Mr Daykin: We are not able to
do that; under Treasury fees and charges rules we have to charge
the same hourly rates to all our clients.
Q59 Mr Todd: About 20% of your business
is with overseas customers. What are the risks and potential liabilities
of that part of your business? I think the Morris review raised
some concerns about this.
Mr Daykin: The Morris review did
raise a concern but they also suggested that that was one of our
major areas that we should be expanding, and that is also the
message that we have had over the years, that if we need to expand
our client base then we should expand it internationally as well
as in the UK. There are obvious potential risks with any consultancy
work that things could result in a complaint by the client. In
our main central departmental work in the UK that risk is small
because it is all part of the Crown, all part of central government.
The wider work we do in the UK as well as that overseas is more
of a risk. We have explored the possibility of taking out professional
indemnity insurance, as would a private firm, and have been instructed
by the Treasury that that would not be an appropriate thing to