One simple change could see pensions deliver much needed growth for Britain - Ros Altmann
The gross reliefs to UK pensions each year (tax and National Insurance exemptions) amount to over £70bn of taxpayer money. A quarter of all pension funds can be taken tax free and no National Insurance is paid on pension income.
There is, therefore, a clear justification for the Government to require UK pension funds who receive these expensive reliefs, to invest at least 25 per cent of each new contribution, into UK markets to help boost growth as the quid pro quo. This is incentivisation rather than mandation. If trustees or managers don't want the tax reliefs, they can invest 100 per cent overseas, it is their choice.
This reform would not cost the Government more money and could help revive our financial markets, as well as growth. These UK investments should encompass quoted larger or smaller businesses, as well as unlisted or early-stage companies, infrastructure and housing.
I am talking about starting a re-rating of UK assets, which have become conspicuously undervalued in recent years. This could be a win-win for the country, both short and long term, setting up a virtuous circle to replace the doom loops of falling pension allocations and UK markets’ underperformance.
It is time for revolution, not evolution, with more money being used at home, rather than leaking overseas. Britain’s productivity and technology funding have fallen behind other countries and the once-robust domestic institutional asset base that supported UK companies and markets has eroded. This is threatening our country’s position as a global financial centre that punches well above its weight. Such pension reform can help increase national wealth to fund public services and sustainable growth.
The main drivers of the decline in UK allocations have been the de-risking of private sector defined benefit schemes and the shift across UK pensions to lower cost passive global market-weighted equity allocations.
By slashing their exposure to UK public company shares, domestic pension funds have gone from being a natural support for the London stock markets, to an insignificant force. By dramatically cutting exposure to equities and other risk assets, UK pension funds are giving up on higher expected returns. In any capitalist system, one of the bases of capital asset pricing is that higher risk assets will, on average, deliver higher returns over time. Other countries’ pension funds have moved away from extreme reliance on fixed income assets, to embrace investment risk. But UK pensions have reversed their past over-weighting in equities.
Nowadays, UK pension funds have significantly lower absolute and relative allocations to domestic equities and unlisted equities than most global developed country pension systems. In international comparisons, this is a huge vote of ‘no confidence’ in Britain.
Each part of the UK pension system has a lower allocation to domestic equities as a percentage of total assets, as a proportion of total equity allocation and relative to the size of the local stock market. Is it reasonable to expect to attract overseas investors to invest in this country, if our own institutions do not believe in our markets? UK corporate defined benefit schemes – which hold the vast majority of current pension assets, typically allocate just 1.4 per cent to UK equities. Public sector Defined Benefit schemes and Defined Contributions are somewhat higher, but still well below the global norm.
Baroness Ros Altmann is a pensions expert and independent peer.