The crises in Irish pension provision

This is an extended version of an opinion piece published in the irish examiner. In 1908 David Lloyd George, the then chancellor of the exchequer in the United Kingdom of Great Britain and Ireland steered through, against some considerable opposition, a revolution in social welfare. The idea was simple and yet radical : that people in their old age, unable to work, should have a modest stipend and not be a burden on their families. Ireland of course benefited from this also, and over 170,000 pensioners obtained some pension, the 1908 act providing for means testing.

Since then pension provision has evolved massively. But in Ireland we face now not one but three interlinked pension problems. Pensions are in principle a fairly simple thing: you put aside a sum of money on which you can draw for future needs. The problem arises in that it is inherently an act of forecasting. Consider the elements involved. You need to first forecast how long after retirement you are likely to live. Then you need to forecast how much income you will need for each of these years. Then you need to forecast how much time there is until you retire, and by how much you expect each sum of money you put away to grow over that period. Each of these forecasts must be more or less on the button if the final equation is to be correct. (for more on the underlying equations see here ) Not surprisingly therefore pension planning is complex. Most people underprovide for their pension which means that a significant burden then lies on the state. The pensions board provides a pensions calculator which I suggest would horrify most when they plug in their details. The reality is that we are underfunded in al pension areas. Irish people are not very financially literate and we pay very high fees for pension fund management, much of which is based on asset levels not on actual performance. The pension issue in Ireland is complicated by the fact that we have a mixture of pay as you go pensions and traditional pension savings as noted above. And even within that there are shades. One split is on defined benefit (where at retirement you get a set % of your final or average lifetime salary) and the pension fund is supposed to have enough in the savings pot to meet this, while the other is defined contribution (where the pension is in effect determined by how much if any is in the savings pot). And then we have pay as you go pensions, in the public sphere, where pension payments are in effect paid out of current tax revenue. All these are in crisis.

In the realm of public sector pensions there was a report in 2008 by the comptroller and auditor general that looked at the future liability of the state for public sector pensions. This found that there was a “contingent liability” of some €100b. While that is a shocking amount of money, it must be placed in context. It does not mean that the state owes 100b. It does mean that, based on a certain set of forecasts (how many pensioners will live for how long and at what rate their pension needs will grow) that a sum of 100b would be needed if one wanted to at that time invest at a particular rate of return to obtain an income stream that would meet this. Its also important to note that this is a sum that would be required to meet the pension liabilities over 50 years. At present public sector pensions are paid for in the main out of current tax revenue. There was a national pension reserve fund, which was an excellent idea of Charlie McCreevy to set aside a fund that over time would build up and generate income to pay public sector pension liabilities. This fund alas has been poured into the bottomless pit of the Irish banks. When next we hear criticism of public sector pensions from the private sector it might be useful to note that the cure for the overhang was dissipated in private interests.

How to deal with the existing public sector pension bill is a problem, but at least the government have taken steps (reduced entitlements, longer waiting times to benefits, increased contributions) for new entrants. That is not enough for the critics of public sector pension provision however, who (quite rightly) draw attention to the overhand, and then complain about the existing pension provisions without suggesting realitic reforms. Absent simply writing down existing legal provisions (a dangerous route) there is little that can be done in the shortterm to reduce the bill. In any case, reducing the existing pension bill will do nothing to increase the pension pots of anyone who has suffered losses.

we also have, as I have noted before, the issue of the unfunded liability of the noncontributory pensions. Public sector pension costs are circa €4b per annum. Non contributory pensions (old age mainly) are c €1b, and the state also subvents (tops up) the social insurance fund (which is the fund into which PRSI etc is paid and out of which contributory pensions etc are paid) by nearly €2b. Thus it would be fair to say that applying the same logic to these as to the public sector pension issue we face a state overhang of between €25 and €75b. However, we hear very little of this. The perception is that we are a very young population – this is true but the % of the population over 65 here is 18% compared to a OECD average of 23%. Yet we spend only 3.6% GDP on pension provision compared to over 7% on average. We face a massive change in the next 30 years in our population pyramidand we need to begin to save for this. (here is a link to an OECD population pyramid , in Excel format). State old age pensions have remained untouched over the crisis – the ghost of Ernest Blythe hangs long over the state.

In the private sector we have seen the massive destruction of wealth and pension funds have not been spared. Up to 80% of defined benefit schemes are estimated to be in deficit. We have seen the closing to new entrants of defined benefit schemes, and where such schemes do exist we have seen cases such as Waterford crystal where the fund was not able to provide its warranted requirements. A further complication here is that the government has refused to implement EU requirements for a pension protection fund (which would of course involve a levy). The UK government also refused and was forced to implement same only after a long legal battle. Thus in addition to the public sector pension overhang the government face a large bill, possibly running into the hudreds of billions should, as expected, the European court rule that it was in breach of its requirement to have put a pension protection fund in place. The last thing the Irish state needs now is additional financial strain but it is highly likely that that will be forthcoming.

For those that choose defined contribution funds there has been a horrific loss of value over the last number of years. That said, the indications are that Irish households are holding increased financial assets, and the declines in pension fund reserves are not nearly as large as the declines in domestic financial asset values. Irish household wealth has fallen but stripping out the house value falls this is not significant. That is important as it suggests, along with other trends in savings that whether by a sense of fear or a sense of requirement Irish people can increase savings levels. If the government can, through imaginative means increase savings they will have done a good days work.

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4 thoughts on “The crises in Irish pension provision

  1. Michael G Cruffon

    The NPRF was to be distributed 2/3-1/3 PS Pensions-PRSI Pensions, if I am not mistaken.

    It is difficult to keep up with adjustments to PS Pension entitlements since C+AG report in 2008 but the PS Pension Levy + PS Pension contributions must now come to almost €2 billion leaving the State to currently pony-up about €1 billion for the Pay-As-You-Go system ( not €2 billion as you suggest).

    Also take note that PS Pay and Pensions are often quoted as two separate amounts which are then expressed as a cumulative figure which does not take allowance of the fact that currently serving Public Servant’s pension deductions taken from their salaries substantially fund current pension payments to PS pensioners. There is double accounting taking place here!

    New entrants to the Public Service are to all intents and purposes now paying into a Defined Contribution Pension and can expect to have no “Employer” contribution to their Pension fund.

    (Brian,your blogpost appears truncated.)

    Reply
  2. Bill Noonan

    we are seeing the emergence of Government legislative proposals for the confiscation of pensions in payment from pensioners currently receiving pensions from defaulting private occupational pension schemes

    Reply
  3. Derek Kelly

    Hi Brian, thought that this might be interesting as I have not heard it before. In some small way I guess it relates to your post of 20 July.
    My wife met with the EBS recently to discuss the possibility of getting a mortgage from them for a self-build. We had previously met with the bank on the 13 July and the feeling from that initial meeting was good. These are my wife’s minutes:
    “EBS: Pension contributions are obligatory in our employment and consequently when considered in the mortgage approval process it would be better if the deductions were not so high
    – But higher contributions shows a higher wage
    EBS: In private sector the deductions are not obligatory
    – But if we saved more for X amount of months would that assist us
    EBS: That would make no difference. The reason [he had] requested to see pay slips was to see the deductions. Since we last spoke, where the sum of €165.000 appeared a distinct possibility given our details, things had changed for EBS. A new policy document circulated by AIB means that deductions on payslips now form part of the application process for mortgage approval. The highest amount he could offer us was €116.000. It made no difference what savings we had. The pension contributions are obligatory so we cannot, like those in the private sector, choose not to pay them.”
    I find this incredible; a bank that is state owned is, in effect, discriminating against an entire section of the citizens of the state whose jobs do not allow them to cease contributing or in any other way nullify their pension deductions. In a sense they are treating us, public / civil servants less favourably than those in the private sector, which is a direct comparison to be made here.
    Yet, if we were private sector workers and were to cease paying into pension contributions etc does it not show incredible disrespect towards the State from AIB/EBS that they are happy for the State to pick up the tab when private sector workers retire?
    Also, note that we are ‘approved’ for a mortgage but that the amount of approval (€116,000) is so low it would not be of any benefit to us. In effect, this allows AIB to argue that they are approving while they are not.
    It is hard to believe that this can be acceptable policy from a bank that is primarily State funded.
    Have you heard of this before?
    Derek Kelly

    Reply

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