New research from the Centre for Market and Public Organisation (CMPO)

Since the Pensions Commission made its recommendations in May 2006, there has been relatively little reflective scrutiny of its proposals. Two articles in the Autumn 2006 issue of Research in Public Policy look at two crucial aspects of the Commission’s proposals – the retirement age and means testing for state pensions – and raise some worrying concerns about the proposed reforms:

· The proposed increase in the value of the state pension and the state pension age will benefit the more affluent as they live longer and do not receive the means-tested Pension Credit.

· For this group, the likely effect is that they will retire earlier not later, using personal pensions and savings before they reach the age of 68.

· Those with health problems, who are often poorer, will drop out of work onto incapacity benefits rather than retire later.

· Hence the Commission’s proposals are likely to cost the Treasury more than previous estimates suggest while transferring money from poorer pensioners to the more affluent.

SAVE MORE, WORK LONGER

Sarah Smith notes two important considerations that have not received much attention in the proposal to raise the state pension age. First, unskilled workers die seven years younger than professionals and hence receiving the pension later represents a much larger reduction in the total value of the pension they will receive.

Second, raising the state pension age does not necessarily raise the age at which people stop work. By the age of 60, around 30 per cent of people report that health problems limit their ability to work; by 68, this figure approaches 40 per cent. So many of those not able to receive the pension will potentially claim incapacity benefits instead – and this is especially true for those in working class occupations. She concludes that the challenge is not to push people to work past 65 but to get them to stay employed at least until 60

MEANS TESTING FOR STATE PENSIONS: THE IMPACT ON INCENTIVES

Martin Weale examines the switch from the Minimum Income Guarantee to the Pension Credit, a move from narrowly targeted benefits with a high ‘taper’ (a 100% withdrawal rate) to more diffuse benefits with a lower taper (the 40% rate applied to more income). High taper rates provide sharp disincentive effects for relatively small numbers of people, while lower taper rates expose more people to weaker disincentive effects. Weale suggests that the lower taper does encourage savings among those with low potential incomes from savings but reduces it for the slightly more affluent.

On balance, he finds that overall welfare is raised by the reform but the full cost to the Treasury could be up to £650 million. Furthermore, moving to a system of universal pensions would result in welfare lower than that provided by the current Pension Credit system. This is because the positive effects on saving from reducing the numbers facing disincentive effects from the taper are outweighed by the adverse incentives to save among the better off.

Also in the new issue of Research in Public Policy:

PENSION FUNDS AND THE CAPITAL MARKETS

For people in private pension schemes, retirement will depend on how well their contributions have been invested in the capital markets. But according to research by Ania Zalewska, in some countries, pension funds can be far too big for the market in which they operate.

Her research on Poland provides a good example. Following pension reform, the country’s new pension funds started operations in the second quarter of 1999, but they had more money to invest than there were assets worth purchasing. Within less than three years, the Polish pension funds virtually ‘became the market’.