Tim Knox opinion column for The Yorkshire Post, 19th June 2012.
Ronald Reagan once joked that the ten most terrifying words in the English language were “Hi, I’m from the government and I’m here to help”. But perhaps the twelve most narcoleptic words in the English language are “I’m your financial adviser and I’m here to talk about your pension”.
Few of us relish the prospect of a long and intrusive conversation with a financial adviser. But this understandable reluctance could be leading us to disaster; under a half of the population are saving enough for a decent standard of living in their retirement, while over a third of us have no savings at all. Too many of us (and I am as guilty as anyone) are living on the “eat and drink and be merry for tomorrow we may die” principle. For the problem is that “tomorrow” may be a long way off. Our huge national debt, our rapidly ageing population, a contracting tax base and sharp increases in the costs of health care and long-term care taken together could mean that our standard of living in retirement could be well below that which we complacently expect.
This matters. The only way that we can prosper is to save more of our own money for our retirement. And for that to happen, we need a financial services industry which people trust. The trouble is that we have a financial services industry that is abysmally under-performing; and widely and justifiably distrusted by the people it is meant to serve.
Consider this: according to the OECD, the average annual return in UK pension funds has fallen by an average of 0.1% every year between 2001 and 2010. Conversely, returns on pension funds increased by an average of 3% per year in Germany, 4% per year in Poland, and 5% per year in Chile. That is a 64% better performance than the UK’s pension funds, over the decade, on a compounded basis. Only two countries (the US and Spain) have performed worse. We are in the extraordinary situation of having an industry which has achieved worse returns that their counterparts in Greece.
We must recognise – for a multitude of reasons, including over-active government regulation – that the industry is inefficient, weighed down by a lengthy chain of agents that separates savers and investors at one end, and capital-seeking companies at the other. On top of that, motivated by the prospect of higher fees, the industry often seems to prefer selling over-engineered, complex products, the demand for which is often imagined. Two consequences are excessive costs (think of all those City salaries) and the blunting of competitive forces. You and I pay for this through the erosion of the value of our savings (if indeed we have any savings).
This can’t go on. The financial services industry must start to reform itself, show some leadership and discover some humility. It must confront its own short-termism, and start delivering value for money to its customers. And it must overcome its fear of simplification, standardisation and transparency.
It is also time for the government to re-examine the tax incentives it offers for savings. Over the last decade, relief on income tax and NICs for pensions adds up to a staggering £360 billion (and that vast sum excludes the tax foregone on the tax-exempt 25% lump sum available to pensioners on retirement). We should recognise that these incentives are pretty crude and disproportionately benefit the wealthy.
What most us want for our savings is pretty simple: an easily understandable, low cost product that that serves two basic needs: discretionary (rainy day) savings and retirement savings. The good news is that we already have one: the Individual Savings Account (ISA). The government could combine the annual contribution limits for tax relief on ISA and pension saving at no more than £40,000, with the full limit available for saving within an ISA. This limit could be used as a key cost control lever, with adjustments to it (driven by affordability) becoming a regular feature in the Budget.
There are plenty of other reforms which the financial services industry could promote. For example, mass mutualisation of the vast number of small pension pots would be of great service to savers. A small number of large schemes would enable people to pool their longevity risk and harness enormous economies of scale to drive costs down. Retirement incomes would then be larger, reducing pensioner poverty and the demand for state benefits.
The industry’s pursuit of its own self-interest, at the expense of its customers, may ultimately prove to be its nemesis. Public opprobrium is such that many people believe that there is no prospect of the industry challenging its own vested interests. Can the industry change its spots? If it could, then reform will be lasting. The only other alternative is for the government to come knock on the door, offering to help.
Tim Knox is the Director of the Centre for Policy Studies which this week published 'Put the Saver first: catalysing a savings culture' by Michael Johnson