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Pensions: Future Problems in Europe
3.10 p.m.
Lord Taverne rose to call attention to the Federal Trust's publication The Pension Time Bomb in Europe; and to move for Papers.
The noble Lord said: My Lords, it may perhaps seem somewhat egocentric that I should draw attention to a publication written by myself. In fact, it had been my intention to discuss the Select Committee report of the other place on pensions in Europe. But as the other place has not yet debated it, I understand that it would be out of order for me to do so. Although the publication to which I draw attention is written by myself, it was the result of a very distinguished international working party and I was merely the rapporteur.
The problem about pensions which most European countries face is very serious. It derives from three factors. The first is a falling birth rate. The birth rates in Italy and Spain have now fallen to something like half the replacement rates. Assuming that there are three generations per century, it would mean that within 200 years in Italy there would be only one baby born for every 64 that are born today. That trend will not continue. Nevertheless, it raises a serious problem while it is there.
The second problem is one of much greater longevity. In this House we are familiar with some of the evidence of longevity, although I add at once that, having previously had experience elsewhere, I am glad to say that greater age does not mean that the debates in this House are any less worth while than those in the much younger other place. But the evidence of the trend is quite dramatic. Just about a year ago a recent article by a Dutch expert in the Financiele Dagblad projected that babies--indeed not just Dutch babies--born in the year 2010 (which is not so far away) could expect to live 115 years.
The third aspect of the problem is that most countries in the European Union base their pensions on the pay-as-you-go system, whereby, as your Lordships know well, existing contributors pay for existing pensioners. Combining that with demographic factors, one finds the uncomfortable situation that an ever shrinking workforce is paying for an ever larger pensioner population. What is more, as people are living so much longer, pensioners will also be very much more expensive. Clearly there is a problem. In the publication to which I have drawn attention, the matter was raised nearly two years ago.
Following the Select Committee report, certain editors suddenly discovered the problem and some alarmists have used it as another stick with which to beat the concept of monetary union. It means, they say, that other countries will incur great debts in the future--they will incur future obligations that they will be unable to meet--and we shall have to bail them out; our pensions will suffer and we shall have to pay extra taxes to pay for their profligacy. To many people, the European monetary union is somewhat remote. But, if one starts to say that it is something which will prejudice our pensions or will mean that we shall all have to pay higher taxes, it could lead to demonstrations in the streets.
There is only one thing wrong with that alarmist view. It is based on an analysis which is wholly fallacious. In the first place, there is no bail-out allowed under the very strict provisions of the Maastricht Treaty. I am very glad that the Prime Minister pointed that out as soon as the Select Committee report appeared. The terms are quite clear: no bail-out under Article 104(b). What is more, the limit on deficit of 3 per cent. and 60 per cent. on debt will continue to apply after monetary union starts.
There seems to be an assumption on the part of some people that the moment that nations have qualified to become members of the monetary union they will immediately relax and profligacy will prevail. I see no reason to suppose that those who are members of the union will not wish to see it work. And in any event, for reinforcement and as a kind of double safeguard, there has been a move towards a stability pact, which I am very glad to say Her Majesty's Government strongly support. The details have not yet been finally settled. Severe penalties have been agreed but whether they should be automatic or applied case by case has not yet been agreed. But that pact is there to ensure that member states of the Union will not incur enormous and unjustified debts. So that is the first fallacy. They assume that there can be a bail-out but there can be no bail-out.
The second fallacy is to treat the hidden debts that flow from pension obligations like the conventional debt within the national accounts. Those hidden debts are theoretical debts and everyone knows that they are debts that will not be paid. Governments consistently break their obligations to pensioners. It is not some continental vice; we do it ourselves. We did so dramatically in 1981 when we changed the basis on which pensions were uprated from being uprated with earnings to uprating in accordance with prices. Personally, I think that that was a wise move, although it should have been followed by other provisions to prevent poverty in old age, because we too face a major problem, although it is a very different problem. We too need dramatic reform but it is reform to ensure that all our population can have decent pensions and that we do not condemn one third of our pensioners to poverty.
But we too break our obligations to pensioners. We did so again in the Pensions Act last year, when again the benefits payable to those who stay in SERPS were decreased. It is happening on the Continent as well. But we too have other hidden liabilities that do not appear
in the national accounts. The decommissioning of power stations will impose very considerable obligations on us in the future. We do not know what they are and so they do not appear in the national accounts. We are building up a number of unaccounted for liabilities under the private finance initiative. Others will not have to pay for those debts any more than we shall have to pay for theirs.The third fallacy is that the alarmists seem blissfully unaware of what is being done in other countries. In Germany, France and Italy there has been a spate of reforms in recent years--several since the Federal Trust's publication was issued--which have increased contributions, lowered benefits and in many cases increased the official retirement age.
Some people reply that there were protests; and of course there were protests. When governments introduce unpopular measures, there are protests. It did not stop reforms being introduced or will not stop other reforms taking place. I hate to suggest that one should advise foreign governments, but it seems to me that they will have to do more and several of the reforms they have already announced will have to be accelerated. But let us not pretend that nothing is being done and that those hidden liabilities are, as it were, fixed in tablets of stone and are unchangeable as the laws of the Medes and the Persians.
The fourth fallacy is that the alarmists completely ignore the very considerable move which is taking place on the Continent towards equity funding. In France there has recently been introduced a Bill which greatly encourages the private provision of pensions and indeed goes so far as to suggest that those private funds must be 60 per cent. invested in equities. That is not a matter of which the committee took any account.
There are the very impressive Italian reforms. I do not know whether the committee ever looked at the Amato reforms or the Dini reforms, which have produced what is likely in the long term to be a very viable mixed system of combined state pensions and private pensions. The Italians have made considerable strides in promoting private pensions and many people expect an explosion of private pension funding in Italy in due course.
In the Netherlands the public servants' pension fund--the ABP--has always been funded; but now it is investing in equities. Previously the total investment allowed into equities and property was only 5 per cent. In the last year since it was privatised it has risen to 30 per cent. Dutch pension funds in general are investing to a much greater extent in equities.
An influential report was published recently by the European Federation for Retirement Provision, which has been well received and is likely to promote the move towards private pensions. That report projects the impact there is likely to be on the provision of private capital in Europe. It assumes that by the year 2020--a questionable assumption but not totally unrealistic--around 25 per cent. of previous earnings will be replaced by privately funded equities operating in partnership with the state funds. It also assumes that the coverage of the second pillar--the occupation pillar--will be
60 per cent. of the working population. That again is not unrealistic because the second pillar in France is 100 per cent. and in the Netherlands about 85 per cent.On those projections the total pension fund assets would amount to something like 60 per cent. of GDP, which one should note is considerably less than the over 80 per cent. which pension fund assets now constitute as a proportion of GDP in the United Kingdom. If those projections are right, by the year 2020 pension fund assets would amount to something in the nature of 10,000 billion ecus, or double the amount of pension fund assets in the United States at the present time.
We are seeing a move which, though it may be slower than projected, will have a dramatic effect on the liquidity of capital markets in Europe and on the capital available for industry in Europe. It is enormously encouraging for industry in Europe and should be viewed as encouraging and hopeful for Britain because of the exceptional expertise which we have in pension fund management.
If one sums up the situation, what do we find? I shall try to state the position with every attempt at objectivity and moderation. In the words of an eminent Cambridge economics professor, one of the best economists of our time, William Buiter: the alarmists have shown themselves to be politically naive and economically illiterate. I would add that they have also shown a total, if not wilful, disregard for what is actually happening to pensions in Europe. I beg to move for Papers.
3.23 p.m.
Lord Dean of Harptree: My Lords, I congratulate the noble Lord, Lord Taverne, on his good fortune in the ballot and also on the important and interesting topic that he chose for debate this afternoon. I am sure we are all looking forward to the maiden speech of the noble Baroness, Lady Ramsay of Cartvale. I can assure her that I shall not keep her in suspense for long because I do not intend to make a long speech.
I must declare three interests in British pensions. I am lucky enough to be in receipt of a national insurance pension, a war pension and also a parliamentary pension--a fortunate position in which to be.
I agree with the analysis in the pamphlet referred to by the noble Lord, Lord Taverne, and will now read one sentence from that analysis. It appears on page 1 of the report:
- "without radical changes, maintaining levels of benefits provided by Pay-As-You-Go schemes in line with present expectations will impose a burden on future generations of taxpayers which is likely to prove unacceptable, will worsen the competitiveness of industry and will harm the prospect for employment and for the economy as a whole".
That seems to be the problem in a nutshell. But as the noble Lord, Lord Taverne, said, the problem is much greater on the Continent than it is here. Most of their pension schemes are on a pay-as-you-go basis and are therefore unfunded. As the noble Lord also said, changes are afoot in many of the countries in Europe. They have now realised that the burden is rapidly becoming insupportable and have also recognised how extremely unpopular moves to clear the rapid growth in
the pensions debt are; the French and the Germans in particular discovered that with the strikes and civil unrest which have taken place. A great deal of determination will be required therefore before that mounting pension debt is dealt with satisfactorily.I am sorry that the noble Lord, Lord Taverne, did not dwell a little more on that, both in the pamphlet and today, and give a little more credit to the British scheme with regard to the development of funded occupational pension schemes and personal pensions. Thanks to the Government's financial incentives and other encouragement, we in this country now have large and growing pension savings which provide valuable seedcorn for future prosperity. The total value of those pension investments is now no less than £600 billion. That is more than all our EU partners put together. As a consequence of that substantial development, whereas in 1979 43 per cent. of people retiring had an occupational pension, the figure is now 66 per cent. and rising.
As a further consequence of that, since 1979 pensioners' incomes on average rose much more quickly than for the population as a whole. Admittedly, that does not apply to all pensioners, but it applies to a growing proportion of the population. It is a real success story of which our country can be justly proud. Our present position in the European Union can be illustrated in another way. A recent OECD study calculated that, given certain assumptions, the net value of unfunded public pension schemes is 19 per cent. of GDP in the United Kingdom, whereas in France it is 89 per cent., in Italy it is 113 per cent., and in Germany it is 139 per cent. Whether one takes those figures or any other figures that are available, I suggest to noble Lords who favour the social chapter that those figures need serious pondering.
There is no doubt that in most of the countries of our partners in the EU the employers experience much higher costs over and above pay than is the case in this country. Inevitably, those higher costs are bound to be a drag on their economies and they are bound to exaggerate the problems of unemployment. One of the benefits of being able to keep our costs down is that we are a magnet for inward investment because those who are investing realise that our costs over and above pay are substantially less than those of most of our EU partners.
Therefore, the healthier position in this country than for most of our EU partners does not mean that we have nothing to worry about. As my noble friend the Minister will no doubt remind us, the social security budget is now £90 billion a year of which pensions are by far the biggest item. So it is still appropriate that we should ask ourselves whether we can afford it. Are we handing on to the next generation a bill which will be too big a burden for it? To their great credit, the Government have scaled down the rate of increase in the pension bill by introducing economies and by focusing resources more directly on those most in need. These reforms were not popular, but the search for economies must go on. I remind the House in passing that I do not believe that
any of these reforms received support from the Opposition parties; they were carried out entirely by the Government.Finally, I turn to the very interesting report of the Social Security Select Committee of another place. Its report was published on 23rd October of this year and is entitled, Unfunded Pension Liabilities in the European Union. It is a valuable report, as one would expect, because the committee is chaired by that well-respected and experienced MP, Mr. Frank Field.
There have been press reports which have suggested that the Select Committee report stated that the British taxpayer will have to find huge sums of money to bail out European pension debts. The Government have firmly denied that and I hope that my noble friend the Minister will be able to repeat that denial when he comes to wind up. However, as I understand it, the Select Committee report suggested that governments on the Continent, with their big pension liabilities, may be tempted to meet their pension debts by printing money, which could have an effect on inflation and interest rates which in turn could affect the United Kingdom economy. This is a worrying assumption if it is correct. I hope that my noble friend the Minister will be able to clarify the position when he winds up the debate.
3.37 p.m.
Lord Peston: My Lords, may I say how much I am looking forward to the maiden speech of my noble friend Lady Ramsay of Cartvale. I thank the noble Lord, Lord Taverne, for introducing this debate. I promise not to regard it as a precedent: I shall not be demanding that my own works on macro-economic policy be debated in your Lordships' House in the near future.
I agree with much of what is in the tract, but there are areas about which I strongly disagree, as I shall make clear. This is an area which is worthy of debate. Whether one agrees or disagrees, we are a long way from any final decision or interpretation.
I find it odd, in a world in which the gross domestic product, productivity and the expectation of life are all rising--all of which I regard as boons--that people seem to contrive the notion that we have a crisis here and that we are convincing ourselves that somehow we were all better off when we were poorer and not living as long. I regard that as quite absurd. I agree that there are problems, but I do not for one moment accept that they cannot be solved. In so far as we have a crisis it will be one that we create for ourselves. That is the whole of my position, although I shall elaborate on it in due course.
I entirely agree with the noble Lord, Lord Taverne, about EMU. The point about the debt provisions at Maastricht and of EMU mean that we cannot have fiscal and monetary profligacy, but I thought that we were all agreed that we did not want that anyway--in other words, that cannot be a point of controversy and contention. I also agree with the noble Lord that we need a stability pact, which is our method of controlling the position in the short term. However, my view of the proposals being put forward by Herr Waigil are that they are quite unsatisfactory. If I were asked to assess them
I would say that he is constructing an instability pact and not one which I hope Her Majesty's Government would sign. I could devise a more suitable formula that would get us out of those problems.I wish to be at least partly optimistic. Perhaps I may immediately put the Minister on the spot. My advisers tell me that the Government Actuary has made a forecast of the national contribution rate needed to finance state pensions over the next 50 years. He has calculated that it will be exactly the same as it is at the present day, and once the baby boom is over it will fall. Therefore, for those who believe that there is some financing problem here, the Government Actuary says that they are wrong.
Perhaps I may now make a few points which I believe are obvious. They are more a matter of arithmetic than economics. If the ratio of old people to the working population rises and nothing else happens, average incomes must fall. That is purely a question of arithmetic. If those in work demand the same incomes as they would otherwise get, a fortiori the incomes of retired people must fall. Since retired people were overwhelmingly workers once, another way of putting this point is to say that the individual, in maintaining his or her spending while in work, will then be poorer in retirement. Again, that is arithmetic and has nothing to do with policy or anything else. That is true and it is a point that is always missed. I believe that it was missed by the noble Lord, Lord Dean of Harptree. It is true whether one is discussing a pay-as-you-go scheme or a savings scheme in any other form. If the given cake is there to be divided and if some people get what they were expecting to receive and there are more other people, they (the latter) will get less. The real error made--including by some of my honourable friends in another place--is to somehow believe that the scheme can get away from the arithmetic, but it cannot.
Since state pension schemes are at least partly redistributive towards the poor, if we maintain the incomes of those who work then we shall be clearly disadvantaging the most poor people in our society. Again, that is a matter of arithmetic and I am not yet saying anything about economics. Therefore it follows--and I believe that everyone takes this view--that even those who advocate the so-called funded savings scheme still advocate some state subsidy for the poor. The overwhelming point is that if workers insist that they get what they expect notwithstanding, then someone else must pay the price.
Another way of putting this matter much more positively is to note that if the potential population of old people rises then that can be offset by people working longer. Most economists would argue that if we are to live an extra number of years, one might take some of those years as leisure and others in doing extra work. That would be a standard proposition of economics. Alternatively, if one does not want to do that, then somehow we have to raise the productivity of the working population in order to deal with the dependency ratio.
Clearly then, the problem before us has nothing to do with schemes but with factors such as productivity and how long we work. I believe--and some economists
would argue--that if labour becomes scarcer then the market system will work to raise productivity. That is another way of putting the matter. We shall economise on a scarce asset and therefore we can be optimistic about that.There is also the point that whether we have a savings scheme or a minimum state scheme, the level of private savings will rise and that will again be the way in which the system works. Assuming--and this is where those of us who call ourselves Keynesian economists differ from others--that the savings are invested in real assets, then our output will be that much higher. Most of us argue that that cannot be assumed and that we have to make sure that it happens. Either way, if the system is allowed to work--if it can be encouraged to work--there are good grounds for saying that, irrespective of whether we have a save-as-you-go scheme or a pay-as-you-go scheme, the economy will be able to deal with the problem.
In passing, I should say that I agree that this country should raise its propensity to save. If a savings scheme could do that, I would be wholly in favour of it. We have one of the lowest propensities to save in the industrialised world and we need to do something about that.
I am not sure whether I have yet used the expression "full employment", but I have to point out that if we operate a system in which the workers are out of work, we have created two major benefits problems for ourselves. One is that when people are out of work we pay them benefit; the other is that because they are not earning, they cannot save in order not to be a burden when they retire. There are thus two consequences of having a policy of less than full employment. There are social security problems in the short term, generating further social security problems in the long term. One of the reasons that some of us say that full employment is central to all economic policy is that it helps us to solve such problems.
In commenting briefly on the question of savings schemes for pensions, I must remind your Lordships--I am sure that you are no different from me--that we must bear in mind what I call the myopia, even the irrationality, of people when they are young. I confess to such shortsightedness myself. When I started out as an assistant lecturer in economics I resented paying the compulsory contribution for my eventual retirement because it was 40-odd years away. It was hard to live on one's income then, but time goes by and eventually one reaches retirement age. I had one of my last retirement parties this week and I now have a fully funded index-linked retirement pension--
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