Written evidence from Mr Rob Curtis LDI0064

Having previously worked in different sectors of the UK financial services industry, I have closely followed the Work and Pension Committee’s inquiry into DB pensions with LDI, and associated public comment.  I am grateful for the Committee’s broad considerations given the complexity, breadth and societal importance of the issues at hand. 

I have long shared the latter part of John Plender’s conclusion in his 21st December FT “Lessons from the gilts crisis” article - “the provision of work-based pensions is seriously dysfunctional and in need of drastic rethinking.”  I was therefore pleased to see Lesley Titcomb’s 21st December PPF review recommendation “That the DWP and the PPF work together to explore whether it is feasible for the PPF’s skills and capabilities to be used in other ways for public benefit”. 

This letter requests the Committee’s sponsorship for an even wider review of how to best use the unique structural advantages of some Government entities in work-based pension provision (e.g., Pensions Protection Fund (“PPF”), NEST pensions, UK Infrastructure Bank, Scottish National Investment Bank).  As such, I briefly suggest some initial ideas, for further consideration, to better meet member needs and assist with societal, economic, climate and nature-based challenges. 

Balancing different stakeholder interests

For context, I believe the Committee’s evidence to date has highlighted the mixed consequences of the regulatory, accounting and risk management (e.g., LDI) approaches to DB schemes over recent decades.  Summarising some of the key impacts by stakeholder groups, there have been:

• benefits to:
• most DB scheme members and trustees by providing a focus on more prudent funding, in addition to partial member protection against employer insolvency from PPF.
• most employers through more stable contribution levels and typically better alignment between accounting and cash costs. 
• the tPR and PPF via PPF’s LDI usage and reduced claims arising from insolvent employers.
• financial services companies, who have constructed and advised on complex investment services to a very large pension scheme market.

• some significant negative impacts to:
• gilt market concentration with trillions of DB pension fund (and insurance company) pounds chasing the same long dated interest rate and inflation protection.
• trustees pushed to deal with high leverage positions by selling other assets / reducing hedging at short notice during the autumn gilt market disruption.
• broader public interest given the disruption (e.g., mortgage rates, BoE intervention), decreasing allocations to growth assets and “greenwashing” concerns about the real economy impact of Environmental, Social & Governance (“ESG”) approaches.   
• increasing numbers of DC scheme members, following the closure of DB schemes to limit employers’ exposure to rising costs and regulatory / financial risks.  DC members not only bear significant future risk of insufficient pensions relative to DB members but some members suffered significant losses from the gilt market disruption immediately prior to their retirement.

The Committee has also already heard a number of specific sensible solutions to reduce systemic risks – e.g., reduced leverage, small scheme consolidation, strengthened regulatory oversight and Trustee governance.  However, I believe that broader solutions are required to better meet the needs of current employees and wider society.

Potential solutions – some ideas

Each of the three ideas suggested below rely upon the same central principles:

–                     Government makes the most of the expertise within existing independent entities by extending their scope of activity to cover a larger pool of work-based pension assets.

–                     To improve the confidence in and success of long-term solutions, government provides some explicit financial guarantees to these entities, as opposed to the current implicit broader market backstops which sometimes result in ad-hoc intervention.

–                     The financial and non-financial (i.e., climate, biodiversity) benefits from successful long-term management of these entities will exceed the cost of the guarantees.

Idea 1: PPF consolidates more DB schemes, reduces systemic governance risks and increases productive asset investment

Lesley Titcomb’s PPF review recommends that DWP and PPF jointly consider the consolidation of additional DB schemes into the PPF – e.g. those with solvent employers but outside insurers’ buy-out appetites and / or capacity constraints.  Whilst some private sector participants continue to advance new potential solutions (e.g., super funds, employer insolvency insurance), a lot of providers are understandably taking a long time to secure regulatory approval and the pace of gathering assets will inevitably be measured.  The PPF’s excess capital position may enable it to support a relatively simple trusted solution within this market and in turn, the PPF is well placed to support long-term investments with wider societal benefit. 

In addition, Nigel Mills interestingly noted during the Committee’s evidence session on 14 December how the PPF could theoretically invest less in LDI assets if the PPF and Government finances were considered in aggregate.  This is because the gains (losses) from PPF LDI assets would occur at the same time that Government gains (loses) from changes to future borrowing costs.  This idea could potentially work practically without compromising the PPF’s independence if the Government provided PPF with an explicit solvency guarantee in a similar way that some employers provide contingent asset guarantees to their DB schemes.  The PPF would then be even better positioned to increase allocations to economically productive assets, given lower solvency and liquidity constraints compared with private providers. 

Idea 2: develop new NEST product to pool DC members’ investment and longevity risks and provide predictable, inflation-proof, whole life retirement incomes

The Pension Schemes Act 2021 provided the legislative framework for Collective Defined Contribution (“CDC”) schemes to be able to apply for authorisation from tPR from 1 August 2022.  NEST could mitigate some of the disadvantages with CDC (see CDC parliamentary briefing) by offering a CDC-like product which pools longevity and investment risk over much larger member populations than potential private sector alternatives.  NEST could also be uniquely positioned to apply a guaranteed life-long inflation-linked growth rate to contributions, thereby providing members with a predictable, inflation-proof, whole of life retirement income with flexibility to drawdown more slowly or quickly as life circumstances require.  Such a solution would also significantly simplify pension decision making for many individuals and consequently the guidance required from MaPS / Pensions Wise. 

Again, such guarantees would rely upon explicit government support to ensure that NEST can adopt a true long-term investment approach without the shorter-term liquidity and solvency constraints on DC / CDC schemes.  DC / CDC schemes might produce higher variable growth rates for members, particularly pre-retirement, but are more complicated and uncertain.  This suggested NEST option could provide greater post-retirement investment growth compared to most current options (e.g., annuities, drawdown) and hence represent a strong whole-life option for employees. 

A similar “Notional DC” concept is already employed by the Swedish government for mandatory core pension provision with growth rates based on average wage inflation.  A different solution to provide guaranteed inflation-linked growth was also recently launched in Brazil, albeit without whole-life protection and risk pooling.  The National Treasury of Brazil issued Retirement Bonds which provide 20 years of inflation-linked income, payable from a range of future retirement dates. 

Idea 3: Provide UK Infrastructure Bank, Scottish National Investment Bank with pension capital to accelerate their investment activity

Finally, pension funds (with their long-term inflation linked liabilities to match with assets) could be a valuable capital source for national and regional investment banks to accelerate implementation of their independent objectives.  To ensure appropriate separation of activity, the banks could potentially issue long-term bonds to pension organisations such as NEST and PPF. 

Conclusion

There are multiple potential solutions to improve the work-based pension system for employees whilst addressing broader economic and societal challenges.  Some of these solutions would involve significantly less change than the ideas outlined here whilst other more radical solutions also have merits too. 

The ideas here are primarily intended to illustrate some of the potential benefits of a broader, more comprehensive review of the UK’s work-based pension system given the recent evidence.  In addition, they also illustrate how existing government organisations could be relied upon and evolved to better prioritise current / future employees and broader societal needs, whilst balancing competing interests.  I anticipate that employers would welcome pension arrangements with lower governance overheads and improved employee outcomes.  There is little regulatory burden to increasing PPF and NEST activity.  Finally, the financial services sector would continue to be required to support investment implementation within these arrangements and separately continue to help individuals with their supplementary wealth management needs. 

I wish you and the Committee all the best with your ongoing work.

January 2023