The elephant in the scheme

Stephen Cowley and Susan Cooper hope employers do not see pension reform solely as a cost-cutting opportunity

January 6, 2011

The consultation on the Universities Superannuation Scheme (USS) pension changes ended late last month and we await the trustees' decisions. We urge them to stop the hasty and unfair changes that are in the works.

Drivers for the proposed changes include increased longevity, the sustainability of the USS and, apparently, cost-cutting.

The proper response to increased longevity is to increase the normal pension age. On this there is agreement in principle, but the negotiations failed to produce a sensible implementation: the employers' proposal does it in one jump and the University and College Union's discriminates between current and new members. The USS trustees should be guided by fairness, and follow the government's lead by making the increase in gradual steps.

After fixing the longevity issue, the key question for the USS trustees is whether the USS is sustainable in its current form. In March 2008, it was 103 per cent funded. A year later it had apparently fallen off a precipice and was only 75 per cent funded. However, by March 2010 it had already recovered to 90 per cent funded and by the time of the next revaluation in March 2011 the precipice may either be a small dip or even illusory. A pension fund needs to take a long-term view before embarking on radical change.

Some reform could be justified, for example to reduce the risk from unexpectedly high pay rises that increase pensions out of proportion to past contributions. This could be achieved by moving to a career average revalued earning (CARE) scheme with an accrual rate of about 1/60th. Average pensions would stay about the same and there would not be serious inequalities between new and old members.

Instead, an accrual rate of 1/80th is proposed, which would bring significant cuts in benefits to new members and to those whose careers take them out of the USS for a period. The justification given is that this would further reduce risk by allowing the fund to switch to a more conservative investment strategy. However, this appears to be a response to short-term nervousness about financial markets rather than to a long-term threat to the fund.

Similarly, short-term nervousness seems to be driving the other great problem with the proposals - the capping of inflation increases. This reform moves the risk from the pension fund, with its professional managers who should be able to beat inflation with wise long-term investments, to pensioners, who cannot. It is a real threat, as some consider a period of high inflation to present an opportunity for governments to reduce the large debts they incurred in bailing out the banks. As only benefits earned after March 2011 will be capped, this proposal affects younger members in particular.

But perhaps employers see inflation not as a threat but as an opportunity. The elephant in the room is cost-cutting. Any cost increases are to be shared, but sharing of decreases has a floor: "Employee contributions cannot reduce below 7.5 per cent (for the final salary section)", while "ideally (the employers' rate) should be closer to 10 per cent".

If cutting costs is the real goal, rather than doing it by stealth and creating a marked disparity between benefits for new and old members, there should be an open debate covering the long-term interests of the sector. The proposed changes would result in an uncompetitive pension scheme that would make recruitment of staff, especially from abroad, significantly harder. Should this not concern employers, given the experience of industry that short-term savings from reduced pension costs are subsequently lost by increased salaries needed to maintain competitiveness?

While a properly stepped increase in the normal pension age ought to be implemented to relieve the longevity pressure and make the USS sustainable, the case for the other changes is unproven, and most are neither fair nor in the long-term interest of the sector. The trustees should send the employers and UCU back to the table, and this time demand that they negotiate seriously.

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