14 November 2007

IPE: Solvency II "will kill DB plans" - Blake

Applying Solvency II requirements to pension funding could be the “final nail in the coffin” for final salary schemes, director of the Pensions Institute Professor David Blake has told IPE.

Blake - who is one of the 10 nominees for this year's Outstanding Industry Contribution award at the IPE European Pension Fund Awards in Vienna tomorrow (Nov 15) – said the diverse nature of how pensions operate in the UK and elsewhere in continental Europe means proposals designed to fit countries with insurance-driven pension plans will seriously damage the funding position of defined benefit plans.

“The Solvency II issue could be the final nail in the coffin of DB plans,” said Blake.

“Whereas the continental view of this is pension promises are really insurance guarantees, and they should therefore come under solvency regulations, we don’t have solvency criteria [in the UK], we have funding criteria. A solvency requirement requires [funds] to post reserves,” he added.

He believes one of the difficulties with the current view of DB pension schemes in the UK, and potential funding issues, is in part the unwillingness of younger generations to consider a retirement income as a privilege they should be willing to support.

“The view in the UK is the pensions long-term commitment, you can have periods of underfunding. That is all very well if you have the commitment of the company, but the company will only make the commitment if they think workers value their pension, and young people do not,” said Blake.

“In the earlier generation, a mother might have said [to an adult child seeking a job] ‘make sure it has a good pension’ because they knew of the experience of living with poverty. But this generation has had it so good for so long, they don’t realise you do have to save a lot for your retirement.

He continued: “People have got to save more for their pensions, unless they are willing to work much longer before they retire. But that is not so likely. As the France transport workers have shown, there is less willingness to do so than hoped.”

One of the additional complexities to dealing with what Blake considers to be serious pensions crisis in Europe is the lack of willingness among most nations, with the exception of the Netherlands, to recognise the need to finance pensions.

“The UK has had one of the most mature [pensions] debates in Europe, the rest of Europe has their heads buried in the sand with the exception of the Dutch as there is a sense of solidarity in the Netherlands about such agreements. Where there were protests [in the Netherlands] about moving away from final salary, there has been very mature debate and they didn’t abandon final salary, they moved to average salary.

“In the UK, we have had the mature debate but no-one has had the guts to stand up and be brave about the solutions needed. Introducing personal accounts is all very worthy but it should mandatory, and this is a voluntary approach because [government officials] fear it is seen as another form of tax,” he continued.

Blake has now turned his attention at the Cass Business School and the Pensions Institute to longevity risk and says he has particular concerns about the viability of pensions in countries, such as Italy, where longevity and fertility rates are moving in opposite directions.

“How you can try to deal with longevity risk is through the new class of instruments, through what I would call the life of the birth market – albeit it has been a slow and painful birth – through the design of products suitable for hedging this risk.

Blake, who is Professor of Pension Economics at the City of London’s Cass Business School, was nominated by IPE readers for an Outstanding Industry Contribution award, for establishing a” prominent Pensions Institute which publishes papers on pension issues” and “writing two excellent books” which have initiated a series of academic textbooks on pensions science.

The winner of the Oustanding Industry Contribution Award will be announced at the IPE Awards in Vienna tomorrow evening.

© IPE International Publishers Ltd.