The prominence given in the days before the Queen’s Speech to Defined Ambition under the indecipherable initials CDC, appears to have been a concerted effort by the DWP to steal some of the limelight having been wrong-footed by the Treasury a couple of months earlier.
Rumour has it only a handful of people outside the Treasury were aware of the scale of the changes to be announced. The day after the Queen’s Speech, the media were pre-occupied by what appeared to be a tangible manifestation of the beginning of the end for the coalition. However, within the speech, one of the more substantive elements, which dealt with the whirlwind of changes unleashed in the Budget on the Pension Market, was perhaps the clearest illustration of the newly formed chasm that commentators perceived had been created a number of weeks before.
We are left with broadly three constructs for the creation of pension entitlements, those with residual rights to Defined Benefits Pension Schemes, those with panoply of alternatives by which to derive a retirement income from their Defined Contribution pot and those who would like to explore the new Defined Ambition. A throwback in some ways to the world of With Profits.
The big story from the Budget is of course the death of annuities. There have been many column inches written but the net of the argument is that while there is nothing at all wrong with the essential structure of an annuity, the cost of transactions and the current low, if not negative, return which are achievable has made this guarantee unpopularly expensive. Macroeconomics has put pressure on the Treasury to give pensioners alternatives and that is what they have done. When real rates improve and people perceive annuities to deliver value for money, research from around the world suggests that demand will pick up. There is also some considerable justification for imagining that enhanced annuities will continue to be an important part of the retirement market.
Unlike an annuity, Defined Ambition provides no guaranteed income. Unlike a Defined Benefit Pension, Defined Ambition is exposed to extreme movements in life expectancy and investment markets. Both the Dutch markets and the Australian markets have been held up as illustrations of why the new proposals will work. In the Dutch market, the comparable scheme saw benefits adjusted materially during the financial crisis. This was a massive shock and a fiscal necessity. Everyone imagined the benefits were secure but when pressure was applied they were not. In Australia, the market held up by Chancellor Osborne as the justification for liberalising retirement options, we see 20 years on an underclass of the mass affluent who have overspent having miscalculated their likely life expectancy are now falling back on the State.
The biggest imponderable however, has nothing to do with the product structures or the ambiguity surrounding the Defined Ambition structure but the method by which we will all seek first guidance and then as required advice at an economic price. Again Macroeconomics is important here. A reduction in yield represented by a working wage for the adviser providing support to an individual’s decision-making process is massive when compared with the marginal returns available from investment of a pension pot. The notion of free at the point of use face-to-face advice has been quietly kicked out of bounds. There is now talk of Skype interviews and simplified advice. An oxymoron in our regulated world if ever there was one.
So how do we tackle the chasm in front of us? What is clear is that we are in the middle of a very ambitious project. There are many merits to the direction in which we are travelling. We must ensure that the current difficult economic environment does not distort the legislative framework to the point where the options are so complicated and guidance so sterile that we all default to doing nothing.