Further to megafund reforms in the Pension Schemes Bill, many of us, including the UK government, have spent much of our time poring over international examples.
Our aim is to find something akin to the magic bullet, or at least one of the magic bullets, for the UK pension system’s issues. Articles about Australian Supers or the Canadian Maple 8 fill our inboxes.
However, there has been less analysis of the contribution that the size of pension schemes makes to the success of these overseas pension systems and to the extent to which this could inform UK policy developments.
Is bigger really better?
The Pension Schemes Bill introduces what is widely known as megafund reforms, in order to increase both the scale and efficiency of pension fund management.
The government worries about fragmentation in the UK pension system, believing that this contributes to low levels of pension scheme investment in private markets and, in particular, the domestic economy; the UK lags behind other countries with mature pension systems in both of these areas.
In particular, there is a concern that members’ savings should not sit within multiple defaults
The government aims to change this with the introduction of DC megafund thresholds, requiring multi-employer DC pension schemes to achieve the scale deemed necessary to make these types of investments.
Underlying this is the premise that investment in private markets, particularly UK ‘productive assets’, can deliver the benefits of both better returns and diversifications to scheme members while contributing to UK economic growth.
In particular, there is a concern that members’ savings should not sit within multiple defaults, when bringing these together would enable providers to harness some of the benefits of scale.
The bill as introduced included a backstop if the megafund reforms do not result in the types of investments the government would like to see. This is a reserve power to mandate that a proportion of funds be invested in productive assets, including UK productive assets.
Over time, small differences in levels of return can contribute to much larger differences in member outcomes
Much of the fragmentation in the UK system stems from the patchwork of different types of pension provision that we have ended up with: DB versus DC, private DB versus public sector DB.
While there is not much that the DC megafund reforms can do about this long tail of pension provision, it is important that we harness efficiencies in DC pensions, the sector of pensions that is growing, to ensure that pension scheme members benefit from good value products and strategies.
Over time, small differences in levels of return can contribute to much larger differences in member outcomes. Similarly, improvements to governance can make a difference to the extent to which members benefit from having a shape of retirement income that meets their preference.
Broadening horizons
Learning from other countries can be insightful, both in terms of their systems’ strengths and lessons learned. PPI research due to be published in June explores other countries’ routes to megafunds in order to understand the extent to which scale has benefitted their pension systems, and how this might play out in the UK.
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At the same time, each country’s pension system has its idiosyncrasies. The UK is no different. You cannot replicate another country’s policy in the UK and expect the same outcomes.
We are different to Australia in terms of both the history and structures of our pension schemes. Our investment industries look different. In our fragmented system, the introduction of megafunds will play out differently to Australia, with implications for concentration, competition and systematic risk.
It is essential that the reforms take into account the specifics of the UK pensions market. Similarly, it is important that we do not overlook the strengths of our system, including the extent to which providers already harness some of the benefits of scale.
There have been concerns around the nuts and bolts of the megafund reforms: how the measure of default arrangements will be applied; the potential conflict between fiduciary duty and the push for greater levels of domestic investment; what the transition pathway will look like.
It is essential that the reforms take into account the specifics of the UK pensions market
Our research explores these questions, and considers the risks and opportunities of the megafund reforms, including the potential to improve outcomes for savers. We also consider some of the trade-offs that the reforms entail, along with factors that influence how they might play out in practice.
We all appreciate the potential benefits of scale for reduced costs and investment opportunities. Similarly, we understand the push for greater levels of UK investment.
However, as with many things in pensions, the impact of these reforms will depend on the detail in the regulations, and on the interaction between the reforms and the complex structures and dynamics of our pension system.
Melissa Echalier is a research associate at the Pensions Policy Institute