And all that without any changes at all by the scheme sponsor.
And, at the same time, the extension of means-testing provides a massive disincentive to savers. The Savings Ratio has halved since 1997 and Government claims as to the level of savings in occupational schemes have been rapidly revised downwards.

Anyway, it is wrong that after a lifetime of work, millions of older people will be forced to submit to means-testing. One pensioner wrote to me describing the procedure for applying for Pension Credit as making him feel like a “pauper going cap in hand”. But we are heading for a society with low levels of funded pension provision and high levels of dependence on means-tested benefits.

It is the state’s responsibility to provide benefits that offer pensioners dignity and independence and provide a solid base for saving. There is always going to be some means-testing in the system, but we are heading in the wrong direction. In 1997, 40 per cent were on means-tested benefits. This year, that figure will rise to 59 per cent with the introduction of Pension Credit, and it has been projected to grow to 73 per cent by 2025.

And the lucky ones are those who manage to get through the complex means-testing system – on the Government’s own figures, 1.4 million pensioners who will be entitled to Pension Credit will not be receiving it by 2006; many more than were not receiving their entitlements when the Labour Party came to office. Even today, almost 700,000 of the poorest pensioners are missing out on more than £1,000 a year in Minimum Income Guarantee and a total of almost £2 billion per year if you include other unclaimed benefits.

Means-testing undermines the dignity of pensioners. But it has increased and is increasing. That is why Conservatives are looking at options to reduce dependence on means-tested benefits and are committed to reform. We have welcomed the emerging thinking from organisations such as the NAPF, the CBI, Help The Aged, even Labour’s favourite Think Tank, the IPPR, and the Pensions Policy Institute – all calling for a simplification and improvement of the State scheme. We are continuing to work on the details of our proposals – but we are committed to tackling this problem and are keen to work with others to achieve a settlement on pensions, which commands such widespread support that it lasts over time.

We are also looking at the incentives and disincentives to saving. An improved State pension scheme would reduce the disincentive provided by the extension of means testing. However, the bureaucratic system of contracting out would remain and so would the inadequate level of rebate, which is a hidden tax on saving. Contracting out, as originally implemented, provided a simple incentive – now the Association of Consulting Actuaries have said:

“on its current terms (contracting out) survives by inertia only. It should be abolished.”

We want to consider how the system of incentives might be reformed so that the Government money committed to contracting out acts as a spur to saving rather than reining it in.

Companies and charities are voting with their feet. When they close their final salary schemes to new members they also contract back these new employees to the State Second Pension. What we are seeing is the first wave of an incoming tide of people contracting back in. A survey by Mercers has shown that only 6 per cent of new employer DC schemes are contracted out. And, in addition, we know that only a small minority of stakeholder schemes are contracted out. In the short run this is a good deal for the Government because more revenues come in. But the shift comes at a price in state pension liabilities in the future. 

We recognise that the system of contracted out rebates cannot continue in its current form, and we are looking at a range of options for reforming it or replacing it. We are no longer committed to keeping contracted out rebates if we can find a better way of rewarding companies that are offering funded pensions for their employees. 

One approach, put forward by the National Association of Pension Funds, is to abolish contracted out rebates in order to finance a big increase in the value of the Basic State Pension. This would get a lot of people off means-tested benefits – but it would have to go hand-in-hand with new incentives for companies that are operating funded pensions. The catch is – you can’t spend the same money twice. You can’t put all the money into a higher state pension and then also say there need to be new incentives for companies to save. So if we are to replace contracted out rebates in a way that is fair, we need your views on what is the best regime to put in its place. Of the £11 billion currently estimated to be paid in National Insurance Rebates, about £3 billion is paid to private sector employers. If contracting out is to end, we must ensure that incentives are provided in some other way. So we are asking for ideas on the best ways of providing those alternative incentives for companies and individuals to put money into pensions. We might conclude that all that is needed is some reform of the existing system for contracted out rebates. But we will also want to consider far more radical options.

So we are committed to reforming the benefit system and to providing better incentives for funded savings. Some argue that we should go further – by introducing compulsion; the case for which, we believe, is still not persuasive.

Firstly, there are objections of principle. Why should the state resort to forcing people to do what it wants rather than look to solve the problem by other means?

And what happens if people are forced by law to do things that, financially, are clearly not in their own best interests? Can we really take someone earning, say, £12,000 a year and with a large credit card debt on which he is paying 15 or 20 per cent interest, and tell him that he is legally obliged to put more money into his pension, when it might not be the best thing for him to do in the circumstances?

And even if compulsion does increase gross saving, it doesn’t necessarily increase net saving. People might borrow more, or save less in other ways. In Australia compulsion hasn’t increased the net amount that is being saved at all. 

There’s another problem as well. In the past, any list of Government-approved schemes in which people were compelled to save would be bound to have included Equitable Life. What if people who had been forced to save had put their pensions there? Wouldn’t they have come back to the Government and said that it had a liability for having forced them to put their money into Equitable Life? Wouldn’t their demands for compensation be just about irresistible? 

We need to help employers who wish to make contributions into an individual’s pension scheme. The previous Conservative Government removed the power for employers to require their employees to join a company pension scheme. In doing so, we made two mistakes. First, if we had permitted concurrent membership of a personal pension and a DB plan, it would have avoided most of the horrors of mis-selling. 

Secondly, we should have allowed companies to presume someone is a member of a pension scheme unless they opt out. That is what we are now proposing.

This approach was supported by the cross-party Work and Pensions Committee in the House of Commons, who said that this 

We need to remove the legal barriers that are in the way of companies that just want to pay money to their employees’ pensions. In these circumstances the ‘do nothing option’ should be that the pension is set up. It should require a conscious decision to opt out. So although we do object to harnessing compulsion to force people to save, we have no objection to using inertia instead.

Another issue is the dislocation between the pensions of senior managers and those of the workforce at large. We would like to tackle this by encouraging senior executives to be part of the same scheme as employees. With this in mind, we propose that the lifetime savings cap should be abandoned subject to this very important condition. The limit goes if all the company’s employees – from the highest paid to those on the minimum wage – are given access to the same scheme on the same terms. We would also still need to keep some limit on the value of the tax-free lump sum.

We also have a concern that there has not been enough imagination shown in looking at the architecture of pension schemes. We should also be willing to think outside the box and I would like to pay tribute to the work of Richard Stroud of the Pensions Trust in designing a template for a more affordable, but robust and well funded final salary scheme with a money purchase profit share, which could be used by multiple employers, perhaps on a regional or industry wide basis. It could be based on Career Re-valued Earnings up-rated by RPI, rather than National Average Earnings. Looking at funding from an employer’s viewpoint, costs are controlled and predictable. From the member’s point of view there is the disadvantage of an increasing contribution, but annual increases are small and the core benefit is guaranteed by the funding regime. The money purchase element adds a with-profit element. We have had productive meetings with him and will wish to continue our discussions. We believe that affinity schemes have considerable potential to expand coverage.

One way in which people have been left behind is when their company pension schemes have been wound-up with an insolvent employer. Under the current system of priorities, many workers who have saved for decades and are approaching retirement have found themselves left with only a fraction of the pension they were entitled to after a lifetime of work – sometimes as low as 15 per cent.

After pressing the Government hard on this issue for a many months, we have finally got from them proposals for a re-ordering of the priorities on winding-up. They have also proposed the new insurance scheme, the Pension Protection Fund. Although we have given a cautious welcome, we are concerned that the costs of this insurance should not be such that they provide a perverse incentive to companies to close their pension schemes to new members. 

Gordon Pollock, Chairman of the Association of Consulting Actuaries, speaking at their Annual Dinner recently, attacked the proposals saying that they would push employers away from setting up and continuing final salary schemes. He called for a change in strategy.

The Government says that it is not providing any sort of guarantee to back the new insurance fund – and in those circumstances, how can people be absolutely sure that their pension is secure? So the Government must spell out how they are going to make this proposal work.

The Government has also set the debt on solvent employers, who choose to wind up, at the buy-out cost of benefits, including increases and revaluation. This does bring certainty to a difficult area – the question, what does the employer’s promise really mean - but, it also adds a significant burden to the employer. 

We are not satisfied that the Government is being candid about the costs. In the Action Plan issued in June, they estimate increased employer costs in the range £50 to £100 million. Yet, in the December 2002 Green Paper, the Government estimated the costs to employers of changes to employer debt provisions at between £200 million and £1.25 billion with full buy-out at the top of the range. What changed?
In recent years many companies and charities have chosen to fund their scheme at the bare minimum level. For some this was a reaction to legislation which dictated how surpluses could be used. The Minimum Funding Requirement has been twice cut by the present Government and market movements have eroded it further. Then came FRS17, which made schemes look more expensive and now we have the change from June as regards buy-out costs on voluntary winding-up.

The significance of this new change is that companies and charities will need to focus on whether or not there is a chance that the scheme will discontinue before a member reaches retirement. If there is (and there must be for some at least), long-term funding cost becomes of secondary importance. It will be necessary to play close attention to how much it would cost to buy each year’s accrual from an insurance company. To illustrate the increase in cost, I have been provided with information by Aon on the relative cost of £1000 of deferred pension for scheme members of different ages on the MFR basis, the FRS17 basis and on the new full buy-out basis.

As an example, at age 40, the cost is £16670 for a deferred pension of £1000 on the new full buy-out basis - 28 per cent of salary for someone in a 60ths scheme. That compares with £7961 under FRS17 or £3072 on the MFR basis. What will be the effects on the provision of pensions? The increase in the contingent debt on employers is something which they will realise. They will have to wrestle with difficult issues of risk and affordability as against the need to recruit and the desire to do the right thing by staff. This is particularly so, where the employer has a relatively fixed income stream, as many charities do. You do not have a council tax to put up. 

But if the employer thinks that that the cost now exceeds the perceived value of the pension scheme to the employee, there will be a desire to reduce risk by moving to a lower cost money purchase scheme. This would release funds to support the important work of the organisation and might also allow for higher salaries.

This raises public policy concerns, because ultimately it is the taxpayer who meets shortfalls in retirement income below a minimum level through welfare. 

The government is right to seek to rebuild confidence in pensions, but the weakness in their package is the lack of any incentive to set up or continue with pension provision.

So, it is our job, in Opposition, to make sure that the Government does its job. But, we must also put forward alternative policies. And that is what we are doing. We have two nations in pensions, and a pensions crisis – that’s not the sort of society we want. We want to see a fair deal in pensions – with nobody held back, and nobody left behind.

Thank you once again for inviting me to speak to you. I look forward to working with you further – and, on issues where we can achieve consensus, with Ministers and other parties too – to put the interests of current and future pensioners first and to secure – a fair deal for everyone.