drawn down colourMy father used to regularly paraphrase Benjamin Franklin at me about nothing being certain except death and taxes when I was growing up. However, having spent the turn of the century advising members of small self-administered schemes how to navigate the 6 (some claimed there were in fact up to 13) different tax regimes for pensions which then applied so as to get the maximum possible benefit from them, I was a cheerleader of the tax simplification which the 2004 Finance Act brought in and which demolished all that.

Now it seems that actuaries are no longer going to be necessarily required for members of defined contribution (DC) schemes to get at their savings. In an age of increasing uncertainty about both death and taxes, I find myself cheering this too.

But why stop there? In their consultation document, the Government states that:

With the right consumer guidance, advice and support, people should be able to make their own choices about how to finance their retirement. Everybody’s circumstances are unique and it should not be for the State to dictate how someone should have to spend their savings.

It then adds:

Those who want the security of an annuity will still be able to purchase one. Equally, those who want greater control over their finances in the short term will be able to extract all their pension savings in a lump sum. And those who do not want to purchase an annuity or withdraw their money in one go, but would prefer to keep it invested and access it over time, will be able to purchase a drawdown product.

So the question has to be asked: why are these freedoms and choices not to be extended to defined benefit (DB) members as well?

The reasons the Government have advanced for the change are equally compelling when applied to DB:

  1. There is a lack of choice for people at retirement, which has become more of an urgent concern now that auto enrolment is boosting DC membership. This is even more the case for DB members who are already numerous (although getting less so daily), as their only choices are how much cash to take up to the 25% tax free limit and (up to a point) when to retire. The other freedom DB members have, of course, is to transfer out, although this freedom makes everybody feel very nervous and is possibly about (see below) to be snuffed out altogether.
  2. Current regulations deter innovation. This is, of course, why defined ambition as an idea has been so slow to get off the ground.
  3. Restrictions on cash commutation imply a lack of trust of members to be able to decide how they spend their savings.
  4. The concern that the annuity market has not maximised income for scheme members. This is mirrored by the high cost of de-risking via bulk annuities, which is the ultimate “flight path” for most DB pension schemes, and which many argue has resulted in a big drag on the growth of UK PLC.

All that would be required to extend these freedoms would be to allow DB members to commute as much of their benefits at retirement, whether for cash or income drawdown, as they wanted, with the rest taken as pension as now.

To be fair to the Government, they do acknowledge the logic of extending the freedoms set out in the consultation to DB members in section 6. But then something strange happens.

Firstly, for public sector schemes, as they are mostly unfunded, the Government says it is concerned about the negative cashflows of members transferring out. If 1% of public service workers did so, the joint Treasury/HMRC analysis is that the net cost would be £200 million. This, I think, provides a revealing peak into the world of state funding, where taking on the Royal Mail Pension Plan was seen as positive for Government finances and off balance sheet private finance initiative (PFI) contracts continue to be negotiated offering doubtful value to the state. It doesn’t matter how much things cost over all, it seems, as long as you are only paying out a bit at a time. The Government often behaves in this respect like the victim of a pay day loan shark. Depending on the commutation terms offered, extended commutation has the potential to solve the public sector pension crisis in a way that Hutton’s Pensions Commission didn’t quite manage to.

Not even considering the option of allowing greater commutation from the schemes themselves, the Government has already decided to ban such transfers from public sector to DC. There is to be no consultation on this.

For private DB schemes, the Government says the decision is “finely balanced”. They are worried about all of those currently captive DB pension investments being spent on Lamborghinis. This rather contradicts the earlier declaration of trust in pensioners to make appropriate decisions about their retirement – after all appropriate investment in support of regular income in retirement (which would presumably be recommended by the “guaranteed guidance” to be offered to DC members) should not differ markedly from the equivalent investments in DB schemes. Whether DB schemes invest on a longer-term basis than individuals is, as the Kay Review made clear, uncertain.

However the Government is very concerned about financial markets – they have section 6 of the consultation devoted to nothing else. It is almost as if individuals can be trusted to look after themselves, with a slightly bigger safety net and a bit of advice, but financial markets cannot.

Again, the Government is not consulting on extending commutation of benefits, but solely on the transfer issue. And apparently removing the current right of all members of defined benefit schemes, except in exceptional circumstances, as proposed with public service defined benefit schemes…must be the government’s starting point, unless the issues and risks around other options can be shown to be manageable.

Even if the Government does manage to stop people pouring out of the exits before April next year, this has to be bad policy. To provide more freedom and choice to one group of pensioners and at the same time to remove a longstanding freedom (and one available at the point members joined the schemes) from the other groups is clearly unfair. What is worse, with an election looming, it is likely to be unpopular.

By the way, one of the things that stands out for me in this whole consultation is the use of State with a big S and government with a small g. It is as if typography alone could portray the “State” as big and bad and “government” as on the side of the little guy. I have done the reverse here.

So, if you DB members want to stop the flickering light of Freedom and Choice dying before it even got going, I advise you not to go gentle but to rage, rage and respond in large numbers to questions 9 and 10 of the consultation in particular. You have until 11 June.

One of the pensions announcements in the Budget last week which got less coverage amongst the talk about freedom and the death of the annuity was the one about the minimum age at which pension benefits will be able to be taken in the future. In this respect the Government appears to feel that less freedom is preferable.

Historically the minimum age was 50 except for a list of exempted professions kept by HMRC (or the Inland Revenue as they then were) which included professional footballers. However in 2010 it was increased to 55. From 2028 it is proposed that it is going to be increased again, to 57, thereafter linked to increases in the State Pension Age (SPA).

PwC have projected that, assuming the policy of linking SPA to life expectancy continues into the future, we can expect a SPA of 77 by 2089 and 84 by 2134. If this all sounds a little futuristic, it does highlight a concern about the Government proposal of using SPA minus 10 (or even SPA minus 5 which is also being consulted upon) as a national minimum pension age.

Male HLEFemale HLE

The Office of National Statistics (ONS) have produced an interesting split of both life expectancy at birth (LE) and healthy life expectancy at birth (HLE) by deciles of deprivation. Graphing these with the steadily increasing SPAs shown in black and the minimum pension ages in red we can see that the bottom male and female 10% by deprivation already have a healthy life expectancy below the current minimum pension age, with a further 10% being caught by the increase to 57.

Admittedly we might hope for an increase in both life expectancy and healthy life expectancy at all levels by 2028, but the differentials between the poorest and the richest in this respect have been widening for some time. Certainly if the SPA minus 5 idea is adopted, giving a minimum pension age of 62 by 2028, it is difficult to see the bottom deciles reaching that age in good health. And what about a minimum pension age of 67 by 2089 (72 if SPA minus 5)? Do we think that we have policies in place to increase the healthy life expectancy of the bottom decile by the 15 years (or 20 years if SPA minus 5) that would be required to allow them to retire in good health, even assuming they felt able to do so financially?

As I have mentioned before, I think the Government needs to consider ill health early retirement to a greater extent in its policies towards state pension benefits, but this may be particularly urgent with respect to minimum retirement ages. The main problem as I see it would be the assessment of ill health, bearing in mind the current ATOS fiasco.

One alternative approach might be to try and maintain the minimum pension age as a proportion of SPA rather than a fixed number of years earlier. So, for instance, the current proportion (55/65 or 85%) would give a minimum pension age when SPA reached 77 of around 65.5 rather than the 67 proposed.

Leaving the proposals as they stand, however, is likely to lead to an increasingly ill elderly workforce engaged in the lowest paying and most physically demanding occupations. Not free, and without choices. That doesn’t sound like an election winner to me.

Amongst all the noise about the changes to how you can get money out of your pension scheme it is easy to forget about the more pressing issue of getting money in.

Recent Office of National Statistics (ONS) figures about the progress of pension scheme membership during 2013 under auto enrolment show how far the type of pension scheme and size of your pension pot depends upon the size of the organisation you work for.

type of scheme by size

Of course the auto enrolment staging dates have not yet dragged in the smaller workforces.

Size of workforce Staging date range for size of workforce
100,000 or more 1 October 2012 – 1 November 2012
10,000 – 99,999 1 November 2012 – 1 March 2013
1,000 – 9,999 1 April 2013 – 1 October 2013
500 – 999 1 October 2013 – 1 November 2013
100 – 499 1 January 2014 – 1 June 2014
13 – 99 1 March 2014 – 1 September 2016
1 – 12 1 March 2014 – 1 September 2016

So, by the end of 2013 when these statistics were collated, auto enrolment had only arrived for workforces with 500 or more members. But the scale of the task auto enrolment has to tackle is clear. The proportion of employees with no pension at all is 89.6%, 74.6% and 55.7% for workforces of 1-12, 13-99 and 100-499 respectively. These smaller workforces are also very unlikely to have any form of defined benefit membership in their schemes (1.6%, 5.3% and 16.2% respectively).

employer conts by size

When it comes to contributions, the most popular contribution range is 4-8% for all but the 1,000 plus organisations (for which a third are in the 12-15% range). It will be interesting to see the impact on this of the increases to minimum contribution rates when they come in.

Perhaps not having to buy an annuity will encourage more people not to opt out even when the contribution rates start to rise. I certainly hope so because, when it comes to pensions, it is not what you do with it that really counts.

Typology of biasI found this diagram recently in a paper by John Adams from 1999 entitled Risk, Freedom and Responsibility. It attempts to summarise different people’s attitude to risk-taking based on their views about the kind of world they live in, represented by a ball sitting in very different types of landscape. It explains a great deal about pensions.

Much is often made about our seemingly inexorable shift away from collective solutions to problems to individualised ones, aided on the one hand by technology like tablets, smart phones and other devices which make it easier for us to create our own environments and cut ourselves off from each other, and on the other by a loss of trust in many of the traditional collective organisations, such as banks and governments, which have previously been used by us to pool our risks and protect the most vulnerable.

If this is true, then it would be represented in the diagram by a shift in world view from right to left.

Others focus on the triumph of the American business model or ABM as the dominant school of political and economic thought in the globalised world of today, just as socialism was in previous times. This model leads to a belief in low taxation, small government, minimal market regulation and the reliance of self-interested materialism of individuals within these markets to deliver what we need. Despite its name, it is not a description of how American business actually works, but just one of what Adams would call the “myths about nature” which often determine our thinking about risk and much else besides.

If the triumph of the ABM is true, then it would be represented in the diagram by a shift in world view from bottom to top.

Adams points out that most people exhibit several of these world views and move between them, sometimes very quickly, but I think that it is easy to see where the stereotypical figures from the UK pensions landscape might sit. For instance, many owners of SMEs are calculated risk-takers who believe that things tend to turn out okay on the whole. That is how they became business owners in the first place. So, in the diagram above, taking a few risks with the football is not going to lose it, but there might be a reasonable amount of bouncing around: ie they are individualists.

In the top right hand corner are the hierarchists. They do not believe that the environment in which they operate is fundamentally benign but they do think that it can be managed. This is why their landscape resembles a series of speed bumps: the football cannot be allowed too much freedom or the consequences might be serious and it is possible to deny the football that freedom. This is the world view of a large number of civil servants and actuaries, which is why the public sector is still running defined benefit pension schemes and the private sector (with the smaller schemes overwhelmingly sponsored by individualists) has largely retreated from them. The larger companies, which tend to harbour their fair share of hierarchists, have been the slowest to abandon such schemes.

In the bottom right hand corner are the egalitarians: people who believe that giving the football anything more than a light tap is likely to lose it forever. Nature is unforgiving and cannot be controlled, but the less we do to destabilise the environment, the longer she is likely to let us live. The resource and environment group of actuaries, with their focus on limits to growth and the implications of this, are likely to contain a number of egalitarians in their ranks.

And where are the pension scheme members? Well, even 15 years ago Adams reckoned on at least 40% of the population being fatalists. This is the perfectly flat landscape representing the idea that it does not remotely matter what you do with the ball, the end result will be the same. Adams cites a survey carried out in 1998 on young adults in England in which, when they were asked to imagine that they could only have one of two rights – the right to vote in an election, or the right to obtain a driving licence, 72% chose the driving licence. I think it is probable that this proportion would be higher now.

So we have pension schemes largely inhabited by fatalists and run either by individualists, in the case of smaller schemes, or by hierarchists in the case of larger and/or public sector schemes. The reason they have had to be auto-enrolled into schemes they did not choose to join themselves is because they do not fundamentally believe that it will make any difference, which makes the cost of it at any price too high.

However they are not comfortable being fatalists. The Pension Regulator’s survey of defined contribution (DC) pension scheme members in 2012 revealed that the three things they wanted most of all were:

  • Someone making clear to them how much they needed to save;
  • Being able to talk to someone to understand their pensions better; and
  • Clear communication from their employer and their pension provider.

All of which would make them less fatalistic and feel more in control. Whether you feel this would move them upwards into the individualist camp or diagonally across to the hierarchical camp (or even over to the egalitarian position) probably depends on your politics, but none of these positions are fixed. The recent floods have shaken many business people’s faith in things basically turning out okay in the end, and the credit crunch certainly moved many people out of hierarchist into either egalitarian or individualist territory.

What it suggests to me is that the way we organise pension scheme membership may be fundamentally flawed. Talking to members about their risk appetite or tolerance to risk is starting from an individualist perspective: that the world is a benign place, nothing too extreme is likely to happen and the only choice for you to make is how you want to invest your money. But it makes no sense if, assuming you can be coaxed away from the fatalist position, you turn out to be an egalitarian or a hierarchist. And this position probably makes no sense to the sponsor of the scheme.

When asked, sponsors of smaller schemes are very clear that they do not support the idea of collective schemes. They want to run their own schemes otherwise a large part of the benefits of the arrangements to them are lost. However, if auto enrolment is to deliver the changed relationship between the public and pensions everyone hopes for, I think prospective members are going to need choices about more than investment strategy. If members want to pool risk I think they should be able to, and collective schemes alongside firms’ own DC arrangements, perhaps with joint membership, may be the way to achieve this.

Individualists, hierarchists, fatalists and egalitarians. As Adams points out “the clamorous debate is characterised not by irrationality, but by plural rationalities.” It is a debate which has a long way to go yet.

Source: Wikimedia Commons. A shell of the sea snail species Cymbiola vespertilio, the bat volute. Photo taken by User:Haplochromis

Source: Wikimedia Commons. A shell of the sea snail species Cymbiola vespertilio, the bat volute.
Photo taken by User:Haplochromis

How long am I going to live is, of course, an impossible question to answer precisely in most cases. However estimates about how long people with certain characteristics in common (like age, sex, postcodes and smoking habits for instance) are going to live are used for a wide range of purposes from future population estimates to annuity pricing to pension scheme funding.

Central to making any kind of estimate is working out how you think rates of mortality are going to change in the future. Based on the historical evidence over the last 100 years or more, all the models people use to make projections of future mortality rates in the UK involve them improving, but the consensus tends to end there.


There are several ways in which these projections can go wrong:

  • Process or idiosyncratic risk, ie the risk of random fluctuations in mortality experience. The fewer people you have in your pension scheme, the more likely this is to be a big issue.
  • Level or mis-estimation risk, ie you start from the wrong current position.
  • Trend risk, ie risk of underestimating how much longevity will increase in the future.

Some also include another one:

  • Catastrophe risk, ie the occurrence of an unknowable event with large consequences.

But what do these projections look like? Well, the most popular family of projections of future mortality improvements are generated by the CMI Projection Models, a new one of which comes out every year. Giving the rates of mortality improvements for each age in each year a colour produces something called a “heat map”. The colours get progressively “hotter”, moving from yellow to orange to red and then black as the rates of improvement increase, and “cooler” from yellow to green to blue and then purple, as the rates of improvement decrease and ultimately turn negative (ie worsening mortality). One version of this is shown below:

100%S1PMA CMI_2012_M[2.00%]

100%S1PMA CMI_2012_M[2.00%]

Which as you can see is a considerable improvement on this (“cohort” adjustments of this type were used by most pensions actuaries only five years ago):

Source: CMI working paper 39: Actual and projected annual rates of mortality improvement for males: 1991-2005 – estimated actual rates for population of England & Wales; 2006 onwards – projected rates using ‘Medium Cohort_1.0% minimum’

Source: CMI working paper 39: Actual and projected annual rates of mortality improvement for males: 1991-2005 – estimated actual rates for population of England & Wales; 2006 onwards – projected rates using ‘Medium Cohort_1.0% minimum’

However, in my view there is scope to go further.

One criticism which has been made by actuaries when using the core version of the CMI Projection Model is that the initial rates of improvements do not necessarily start to converge to the long term rate of improvement straight away, often diverging initially before starting a convergent path: these are displayed as little islands in the CMI heat map above.

Another potential criticism is that there are obviously many ways of creating a smooth transition to long term rates, but until now within the CMI model this required selecting the advanced features of the model. This allows much more flexibility over choice of:

  • Base rates of mortality
  • Initial rates of mortality improvement
  • Long term rates of improvement that differ by age and year of birth
  • Convergence, again by age and year of birth

However, selection of the advanced features brings its own problems in that it requires a further set of assumptions to be made for which, certainly within the framework of advising a trustee board of a pension scheme and particularly for small schemes with less data, it might be difficult to identify a convincing rationale. There also remains the problem that, even if a large set of additional assumptions can be agreed, it is often difficult to relate these to views held about what will impact future longevity improvements.

This begs the question of how you do go about introducing alternative projections. I think one answer to this may lie in a series of questions posed by Peter S Stevens in his book Patterns in Nature:

Why does nature appear to use only a few fundamental forms in so many different contexts? Why does the branching of trees resemble that of arteries and rivers? Why do crystal grains look like soap bubbles and the plates of a tortoise shell? Why do some fronds and fern tips look like spiral galaxies and hurricanes? Why do meandering rivers and meandering snakes look like the loop patterns in cables? Why do cracks in mud and markings on a giraffe arrange themselves like films in a froth of bubbles?

Patterns turn up again and again in seemingly unrelated areas in the natural world because, as D’Arcy Thompson pointed out long ago, those patterns are as much to do with the physics and chemistry of the world with which organisms are interacting as they are with their biology. It therefore seems reasonable to look at the mathematics underlying patterns which already exist in nature when considering what patterns might develop in future in, for instance, human mortality improvements.

I have chosen the mathematics underlying sea shell patterns, as explored by Hans Meinhardt and others.

By focusing on a graphical approach to setting future mortality improvement projections via heat maps, I believe that the particular features of any specific projection can be more readily linked to views about the impact of specific factors on longevity improvements. The method set out in a very short paper (The misbehaviour of mortality) I have just produced can be used for instance to turn this:

100%S1PMA CMI_2012_M[2.00%]

100%S1PMA CMI_2012_M[2.00%]

Into this:

100%S1PMA SSA_2012_M[220,0.4,23,1.5]

100%S1PMA SSA_2012_M[220,0.4,23,1.5]

And by taking a path through the heat map like this:

Heat map cohort path

We can compare shapes of mortality improvements projected for eg a man aged 63 this year like this:

Mortality improvement path

As you can see a wide variety of shapes can be achieved using this method. It allows features of a given projection to be more easily related to views held about social change, medical advances, etc and their impact on longevity improvements in the short, medium and long term. In particular, it allows future projections to be discussed in more detail, but in a non-technical way. This differs from the current most common approach, which tends to focus solely on a long term rate.

I think this approach holds promise for generating patterns of future mortality projections. The advantages are:

  • It avoids some of the problems associated with the CMI core projection model (eg “islands”).
  • It also avoids the considerable number of additional assumptions which would need to be agreed before the advanced version of the CMI model could be applied. Instead there are only four additional assumptions, each of which has an easily communicated interpretation for a lay audience.
  • It has an aesthetic appeal, building on a considerable body of work into patterns found elsewhere in nature, which have not, as far as I am aware, been exploited in any other area of actuarial science to date.
  • It allows particular features of a given projection to be more easily related to views held about social change, medical advances etc and their impact on longevity improvements in the short, medium and long term.

There is a potential disadvantage in that the applicability of sea shell patterns to mortality improvements may well be questioned by some. However, mathematics has a long tradition of establishing links between areas where none seemed to exist previously. Perhaps this will be another one?