USS is the tip of the iceberg. Our pensions system is a hot mess

Image: Nick Efford, CC BY-SA 2.0

This week, university staff have been on strike against devastating changes to their pensions, braving the freezing weather to stand on picket lines waving placards with brilliantly dweeby slogans (personal faves: “Geertz ya dirty hands off our pensions” and “The provost is an ontological turn off”). Universities UK have finally agreed to talks with the union, UCU, about the future of the Universities Superannuation Scheme (USS), but with staff wary of falling into the same trap as junior doctors, the strikes are set to continue for the next two weeks.

As a current postgraduate student, I’m supporting my striking lecturers all the way. But I also think it’s crucial that we use these strikes as a wakeup call. What’s being proposed for USS members is no worse than what faces millions of us when we retire – and probably better than many of us. The difference is that, like the frog slowly boiling in a pot of water, we don’t realise it. Unlike USS members, we probably never had a guaranteed pension to lose in the first place. Unlike USS members, we haven’t had the sudden shock of being told it’s going to be taken away to galvanise us into action. But there’s a quiet crisis brewing in the UK pensions system – one that will affect us all unless we stand up and demand change.

To understand this better, let’s look at three of the key things striking university staff are angry about, and explore how they play out across the rest of the pensions system.

1. Members’ pensions will be at the mercy of the capital markets

At the heart of the dispute about USS is a proposal by management to turn it from a ‘defined benefit’ (DB) scheme, where the level of members’ pensions is guaranteed (i.e. the benefits the plan pays out are fixed), to a ‘defined contribution’ (DC) scheme, where your pension depends entirely on how your individual investment portfolio performs (i.e. the contributions into the scheme are fixed, but the benefits it pays out are not). There are two key things to understand here.

Thing One: You probably have a DC pension

The first is that DC pensions are the norm across the UK: there are very few DB schemes left in existence, and many of those that do exist are struggling with massive deficits, or are already closed to new members. For most workers outside the public sector and formerly nationalised industries, a guaranteed pension is a thing of the past.

Of course, the whole point of a pension is to provide a secure income in retirement. In a very real sense, a DC pension is not a pension at all: it’s just an investment plan, a tax efficient way for individuals to save towards their retirement. No risk sharing, no social insurance: just you and the financial markets. DC pensions fly in the face of the whole notion that it’s fairer and more efficient to pool our risks and resources than to leave each other to sink or swim. But this is the model that now dominates in the UK.

The rationale of DC is based on a classic neoliberal story about individual choice: individuals take responsibility for their own retirement savings, individuals choose who they want to manage their money, individuals decide how much risk they want to take on. This is also how the proposed DC scheme has been sold to USS members. But the reality is very different. Like railways and other public utilities, this is one area of life where reality simply refuses to conform to the free market utopia of neoliberal theory.

The reality is that, right now, most people in permanent jobs are being ‘automatically enrolled’ into pension schemes chosen by their employer – most likely schemes of baffling complexity designed by an army of investment consultants and asset managers, which neither they nor their employers really understand. They will not make an active choice about how much to save. They will not make an active choice about who to entrust with their money. They will not make an active choice about where to invest or how much risk to take. Most of us don’t have the time or expertise to be making those kind of decisions anyway. And yet the whole system is based on the fiction that we are making those decisions – that the consumer is king, when really the saver is being shafted (more on that later).

To give him his dues, Lib Dem Pensions Minister Steve Webb understood what a disaster in the making this situation could be. He tried to change the law to make it possible to run ‘collective defined contribution’ schemes – a sort of half-way house between DB and DC, with flexible ‘targets’ instead of hard guarantees. The Royal Mail and its union have recently agreed to try this approach, and UCU have suggested it as a possible way forward for USS. These schemes are the bedrock of the Dutch pension system – often held up as a model the UK could learn from – but are not accommodated by UK rules, which are designed only for DB and DC. But Webb’s Tory successor Ros Altmann scrapped the plans, saying it was ‘not the time’ to ask the pensions industry to absorb more regulatory changes.

Yes, you read that right: the government introduced laws requiring millions of us to be automatically signed up to pensions we didn’t choose, creating a multi-billion dollar new market for the industry. It failed to do any serious thinking about how to make sure those pensions represented good value for savers or society. And when proposals came forward to fix the mess, they rejected them on the basis that the industry couldn’t cope with the extra changes. This is entirely symptomatic of an approach to pensions regulation that has consistently put the interests of powerful City firms ahead of the needs of ordinary savers. The Tories are now saying that CDC could be back on the agenda, but there are no concrete commitments, and they may well cave to the industry again without popular pressure.

Thing Two: Your pension is definitely at the mercy of the capital markets

The second thing to understand about all this is that, in a sense, even traditional DB schemes are already at the mercy of capital markets. Both DB and DC schemes function on the basis that members’ contributions are invested in financial markets and pensions are paid out based on the returns. The only difference is who bears the risk if returns don’t match up to the pensions people want and expect. In both cases, the financial markets are the goose that lays the golden eggs, and when the goose stops laying, the scheme can hit the buffers.

Since the financial crisis, the recession and prolonged period of exceptionally low interest rates have caused problems for many pension schemes, making it hard for them to get the high returns their projections depend on. This either causes deficits to yawn open, or prompts funds to look further afield for more risky and exotic investments to push up yields (such as developing country corporate bonds, flirtations with expensive private equity, and other ‘alternative’ investments). At a system level, this could be inflating speculative asset price bubbles and storing up future financial crises.

Of course, investing pension contributions to produce a return isn’t a bad thing in itself. Pension funds have huge potential for social good, to act as vehicles which mobilise the capital of millions of small savers and invest it in the things society needs, from housing and renewable energy to small businesses. But, as the landmark Kay Review concluded in 2012, today’s pension funds are increasingly not acting as long-term, productive investors in the real economy, but as more or less speculative participants in global financial markets – employing armies of asset managers who try and ‘beat the market’ by buying low and selling high, across thousands upon thousands of different stocks, bonds and other financial assets.

DB, DC or CDC, our pension funds are not only at the mercy of financialised capitalism – they are key players in financialised capitalism, fuelling rather than counteracting its cycles of boom and bust. Regardless of the type of pension we have, we all need to be worrying more about how our money is being invested on our behalf. This is the engine on which our retirement savings depend, and it’s long overdue an MOT.

2. Unaccountable middlemen are getting rich while members’ benefits are cut

This brings us to the second way in which the anger of USS members shines a light on the bigger problems with our pension system. One of the targets of UCU members’ ire in recent weeks has been the pay packets of USS’ executive committee (reportedly paid an average of £488,000 each), and in particular of its Chief Executive Bill Galvin, previously head of the Pensions Regulator.

When it comes to rent extraction in the pensions system, this isn’t even half the story. Most of us will be separated from our money not just by the management of our pension fund itself, but more crucially by an elaborate chain of asset managers, fund-of-fund managers and investment consultants, all of whom take a cut out of our savings. In fact, USS is an interesting exception to the rule, in that it recently ‘in-sourced’ its asset management (although whether this team is doing a good job or delivering value for money for its members is still contested).

Because they tend to be paid based on funds’ relative performance against other funds, rather than their absolute performance, the fees extracted by this City circus have continued to grow even as our pensions do worse. From 2002-2007, pension funds’ payments to intermediaries rose by an estimated 50%, while real returns to savers actually declined. This also incentivises the merry-go-round of financial trading which adds no value to the economy – as fund managers ‘churn’ portfolios at ever greater speeds, extracting hidden transaction fees every time.

Often this happens without the full awareness of the pension fund itself, let alone the members who ultimately pay the price. It’s only now, after years of tireless campaigning by organisations like ShareAction, that we’re finally going to get the right to know where our money is invested and to see the full picture on fees and charges being extracted. That’s right – in this brave new world of competition and choice, we don’t yet have access to basic information about what we’re ‘choosing’. And even when we do get this right, how many of us will have the power or expertise to do anything with that information?

Economists like John Kay and Paul Woolley, and pensions experts like David Pitt-Watson, have long been sounding the alarm about the level of rent City middlemen are siphoning out of the pensions system – yet politicians have seemed paralysed to do anything about it, in thrall to the powerful interests of the City. If anything, the system as a whole is becoming less rather than more accountable to pension savers.

USS is an example of a trust-based scheme, overseen by a board of trustees which includes member representatives. At least in theory, these trustee boards exist to protect members’ interests, and have strict legal duties to do so. But, like DB schemes, trust-based pensions are a declining part of the picture. Under auto-enrolment, more and more people are being enrolled into what’s known as ‘contract-based’ schemes – as the name suggests, essentially just a contract between you and an insurance company – which are even further away from the ideal of collective provision which should characterise a true pension.

I myself have three of these ‘pensions’, accrued during stints with different employers (incidentally, a proposal to have pensions follow you from job to job to prevent this kind of situation – another Steve Webb initiative – was kaiboshed by the Tories after industry lobbying.) I can barely manage to make sure they all have my current postal address: the idea that I’m in any meaningful sense keeping an eye on what they do for me is a farce. And I worked on pensions policy for four years: if I’m not the ‘informed consumer’ of economic theory, then who is?

Unlike trust-based schemes, insurance companies do not have an overriding legal duty to protect the interests of savers, and savers do not have to be represented in their governance. Again, this problem has been pointed out for many years, but so far all that has been done about it is the introduction of toothless ‘independent governance committees’. The saga of RBS’ Global Restructuring Group, which destroyed small businesses it was supposed to be helping, shows us all too clearly what happens when vulnerable borrowers and savers are thrown to the wolves of Wall Street and the Square Mile with nobody to look out for their interests. Yet that’s exactly what is being done with our pensions.

3. Members stand to lose up to 50% of their pensions

Of course, what all this ultimately comes down to is that USS members now stand to get a significantly lower pension than they did before the proposed changes. And again, this is indicative of a wider trend.

All the problems discussed above – excessive rent seeking, speculative churning of portfolios, long chains of middle men – have been chipping away the value of UK pensions for decades now. Because of the effect of compounding, fees that eat 1% out of your pension annually can erode it by up to 30% by the time you retire. It’s hardly surprising that UK net retirement income ‘replacement rates’ (your take-home pension as a proportion of your final salary before retirement) are the lowest in the OECD, with only Mexico coming close to being as bad.

Until recently, policymakers’ only response to the looming crisis of pensioner poverty has been to ‘nudge’ people into saving more. As with broken energy and banking markets, it’s easier to point the finger at citizens and tell them to be ‘better’ consumers than it is to take on vested interests. In practice, all this means is that millions of us are now automatically opted into a broken and destructive system – handing even more power to those who run and benefit from that system.

But it should now be crystal clear that we’re not going to retire poor just because we’re insufficiently thrifty. Instead, stagnant wages mean we’re paid too little to save enough, and too much of what we do save gets sucked into the black hole of speculative rentier capitalism. David Pitt-Watson has argued that cracking down on rent extraction and embracing CDC could boost UK pensions by as much as 33%, “perhaps ending the pensions crisis at a stroke”. Whether you believe this or not, it’s clear that something has to give.

Our pensions system simply isn’t working – not for savers and certainly not for society. In fact, it increasingly seems like the only people it’s working for are the City firms who manage it. Policymakers who don’t really understand capital markets have seen them as a magical black box that can resolve deep-seated problems with our economy – like an increasingly precarious and poorly paid working population having to support a growing population of retired people. They’re banking on the City’s ability to transform the lead of inadequate wages and savings into the gold of a decent pension. If this sounds familiar, that’s probably because it is: a similar mindset underpinned the mortgage bubble that led to the financial crisis. This folly is slowly but surely brewing up a crisis of old-age poverty and financial instability – one that could reach epic proportions unless something is done about it.

What that something should be is beyond the scope of this article – and will probably require deeper and more imaginative thinking than has been done on this subject to date. But in broad terms, we need to see the same shift in the parameters of debate that Labour has achieved in relation to public ownership of things like energy and the railways. Instead of taking our broken, rent-extracting privatised system as a given and seeking to apply sticking plasters, we should be exploring democratic and not-for-profit models which put power back in the hands of the people. Instead of assuming there is no alternative to the UK system, we should be learning from other countries who do it better. And instead of kowtowing to the demands of the City elites who run our pension system, we should be ready to pass regulations that force them to do right by savers.

It’s to be hoped that Universities UK are coming back to the negotiating table in good faith and that an end to the USS dispute is in sight. But if we want a decent retirement for everyone, we need these strikes to be just the beginning.

  • WillowBhax

    Thank-you for clearly and concisely pointing out the elephant in the room: all the fiddling successive governments have done to fix the pensions system has resulted in a worse system that will condemn future retirees – especially females – to spending their last years in poverty. Increasing the exposure of individual workers to the vagaries of the capital markets, whilst doing almost nothing to educate them how to mitigate their risk or, to ensure that finacial advisors have the duty to act in the best interests of their clients, and suffer punishing fines when they fail to do so is criminally negligent. I hope that your article helps in starting a grass roots campaign to force government to fully address the implications of the current framework.

  • Rob Brookes

    It has always seemed to me that there should be a basic pension paid by the state with the monies raised by taxation that is high enough to allow pensioners live a normal and healthy life and enjoy the activities of their society ie buy nutritious food, keep their home warm and maintained, go to occasional football matches, concerts, buy presents etc, At the moment the basic pension is just over £150 a week, I think which though a little too low is not intolerable imo. It is double what an unemployed person gets which is too low. Should not the emphasis be on raising the basic pension and leaving private pensions to be classed as savings; ie the individual can, of course save for their retirement and those savings can be supplemented by companies whether private or state run but that should be an extra bonus and not necessary to live a decent life once retired.

    • ForensPsych

      £150 a week works out at £7,800 a year, which is more than the present state pension. Mine has just risen to £7,000, and I get a (little) bit extra as a legacy from the old graduated pension scheme. But I think your basic point is about right. A private scheme into which I paid for years will mature later this year. Apparently, it will buy me an annuity of about £1,000 a year, so unless I live to be about 110 I will never get back what I paid in. Now thinking I may take the money out, pay the tax, and at least have a lump sum. I have other income, and should be fine, but I worry about those who won’t (including my children).

  • Soleus

    This is such a brilliant article and I will be spreading it far and wide. Congratulations and thanks.

    • cara pace

      Agreed.

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