|
The following OECD assessment and recommendations summarise Chapter 4 of the Economic Survey of the United Kingdom 2005 published on 12 October 2005.
How should the pensions system be reformed?
Current pension arrangements combine one of the lowest state pensions in the OECD with one of the most developed systems of voluntary privately funded pensions. The main objective of the state system has been the prevention of poverty rather than providing a particular replacement income relative to pre retirement earnings. Unlike the situation in many OECD countries, future fiscal costs are not projected to rise significantly as the population ages. Instead concerns focus on the declining average public pension relative to the income of those in work; recent estimates suggest that state spending per pensioner is likely to fall by almost one quarter relative to average earnings over the next four decades if the current indexation conventions are followed. In addition, the level of private pension provision has been declining. The Pensions Commission, set up by the government to review the adequacy of private pensions saving and due to report in November 2005, estimated that 9 million people are currently making inadequate provision for retirement. A related weakness of the current system is that the number of pensioners who will be subject to means testing is likely to grow substantially which, while keeping fiscal costs down and targeting resources at those with the lowest incomes, will also increase the number of pensioners who will be subject to disincentives to private saving. By 2050 over 60% of all pensioners could face a marginal tax rate of at least 40% on additional savings income. The complexity of the current state system may further reduce incentives to save because it is difficult to understand what the state will provide.
Pension net replacement rates (1)
1. Individual pension entitlement net of taxes and contributions as a percentage of individual pre-retirement earnings net of taxes and contributions.
Source: OECD (2005), Pensions at a Glance: Public Policies Across OECD Countries.
-
A considerable simplification could be achieved by reducing excessive reliance on means testing, particularly its projected growth in the future. This could be achieved by raising the basic state pension and indexing it to future earnings rather than prices. The fiscal costs could be partially covered by gradually raising the state pension age in line with increasing life expectancy, as well as by introducing a cap on tax subsidies to pension savings to better target tax relief at low and middle income earners where under saving is most pronounced.
The fiscal cost of subsidising private pensions (1)
In per cent of GDP
1. Base case, no new saving. Only OECD countries with substantial assets in tax-favoured retirement plans are shown.
Source: P. Antolin, et al. (2004), “Long-Term Budgetary Implications of Tax-Favoured Retirement Plans”, Economics Department Working Papers, No. 393, OECD, Paris.
-
Reducing means testing would also facilitate reforms to promote other sources of income during retirement, such as through mortgage equity release products. There is a large potential for “house rich, cash poor” pensioners to make use of such products, although currently only around 1% do so.
-
At a later stage, if there is no significant increase in saving for retirement, imposing some form of mandatory savings could be considered. This would be justified to the extent that individuals are myopic, although it might also force some individuals to save whose circumstances did not warrant it. It is also likely that there would be some offsetting fall in voluntary savings. Finally such a step could not be taken if current means testing arrangements remained in place because it would clearly disadvantage those on low incomes. In the meantime, a change which would stop short of higher compulsory saving would be to change employee participation in company pension schemes so that the default is that they are contracted in, unless they deliberately take a decision to opt out. Evidence from the United States suggests this should raise employee participation in company pension schemes.
___________________________
Return to the Economic Survey of the United Kingdom 2005
A printer-friendly Policy Brief (pdf format) can also be downloaded. It contains the OECD assessment and recommendations, but not all of the charts included on the above pages.
To access the full version of the OECD Economic Survey of the United Kingdom:
-
Readers at subscribing institutions can go to SourceOECD, our online library.
-
Non-subscribers can purchase the PDF e-book and/or printed book at our Online Bookshop.
-
Government officials can go to OLISnet's Publication Locator.
-
For further information please contact the United Kingdom Desk at the OECD Economics Department at webmaster@oecd.org. The OECD Secretariat's report was prepared by David Turner and Jens Lundsgaard under the supervision of Peter Hoeller.
_______________________
|
