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Public-sector pensions model is unsustainable, says CBI, and must be reformed

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Pensions in the public sector must shift from an unsustainable 'final salary' model to a more affordable system if we are to contain a 1 trillion burden on the taxpayer, the Confederation of British Industry (CBI) said today.

According to the CBI, because these pensions include an unpredictable guarantee from employers, and staff contributions are out of kilter with payout levels, the financial ‘black hole' for unfunded public-sector pensions is £10 billion every year.

The total overall liability for these schemes has mushroomed to £40,400 for every UK household.

The picture is complicated because public-sector pensions vary greatly in size and structure depending on the employer. Some, such as the local government scheme, have more transparent arrangements and are ‘funded' unlike, for example, the Civil Service, which is ‘unfunded'.

But the CBI believes the current approach to public-sector retirement is simply not sustainable.?? Public-sector pension benefits are on average worth 26% of salary every year, which is far higher than private-sector norms - and the total cost will increase as people live longer. To compound the situation, the state workforce has grown by almost one million in the past decade to hit 6.1million, or one in five workers.

The CBI is today urging the next government to set up an independent commission within weeks of taking office to fully investigate pensions costs.

The CBI report, Getting a Grip: the route to Reform of Public Sector Pensions, sets out some of the key issues the commission should consider.?? The CBI believes the public sector needs to pay its way for their pensions. Importantly, pension rights and pots that have already been accrued must be protected, so staff will not lose whatever they have accumulated.

Going forward, all public-sector staff should be moved off guaranteed defined benefit schemes, which include final salary and career average pensions. How this happens may differ between public-sector employers, and schemes that are in a funded position, such as local government, may wish to pursue a different route.

But for unfunded schemes, including the NHS, teaching and Civil Service, the CBI thinks staff should migrate to pensions based on the Swedish model of notional defined contribution (NDC), which will provide guaranteed pensions without unpredictable taxpayer liability. This scheme would offer a risk-free pension that is more sustainable and secures transparency for employers, staff and taxpayers.

Also, retirement ages for existing and new public-sector workers must be raised to match the state pension age. Presently there will be state workers who retire in the 2040s at the age of 60 on a full pension, when the state pension age will be at least 68.

John Cridland, CBI deputy director-general, said:?? "This is a difficult and emotive area, and not one that should be rushed. Public-sector workers deserve a good retirement, but they and their employers should pay their own way. The pensions black hole is over one trillion pounds and rising, and taxpayers cannot be left to make up the difference.

"Guaranteed final-salary pensions have entered the history books in the private sector, but the state has not squared up to the issue for its own workers. Countries like Sweden and Holland reformed their systems some 15 years ago.

"A new government needs to acknowledge the problem, establish the true costs and let the taxpaying public decide what they are prepared to pay for.

"Public-sector workers cannot lose the pensions pot they have accrued so far, but they will have to adapt in the future. We think that, for many public-sector employers, shifting to a notional defined contribution pension could be the best way forward. It would ease the burden on taxpayers and offer public-sector workers a secure and sustainable pension.

"??Under notional defined contribution schemes, members and their employers pay contributions calculated on pensionable earnings, and these are put in personal accounts. This money is not exposed to financial markets, but is directed to independently-managed, ring-fenced funds, separate from general public funds and budgets. These funds are then drawn on to provide benefits for current pensioners, which in the UK's case would be retired public-sector workers.

"With an NDC, the value of employees' personal accounts increases over time in line with selected economic benchmarks - such as average earnings or inflation - using an independently determined rate of return. On retirement the accumulated value of the personal account is taken out of the ring-fenced funds and used to buy an annuity, either from the scheme itself or on the open market. A similar system was implemented in Sweden in the mid-1990s and has proved very successful.?"