It is now 25 years since Australia introduced compulsory pension saving so, asks Stephen Lowe, what can the UK and its comparatively new experiment with auto-enrolment learn from that experience?
Hindsight may be a wonderful thing but foresight is better. It was 25 years ago this month that the government introduced compulsory pension saving as a way to head off the looming financial challenges to the State of an ageing population.
When I say ‘the government’, of course I mean the Australian government. In the UK, our own experiment with auto-enrolment, which began in 2012 is still in its infancy but that does not mean we do not have a lot to learn from their experience.
The Australian ‘superannuation guarantee’ came into being in 1992 when, instead of a planned 3% pay rise, employers were mandated to pay the money into workers’ pension funds. Since then the contribution rate has risen to 9.5% of salary. with employees able to top up if they want.
Although still early days in pension terms, the result has been to help build up far higher levels of personal pension saving than in the UK, where most people still rely on the state pension for the bulk of their retirement income. Despite the success so far, Australian policymakers are not resting on their laurels and are planning improvements to keep the policy meeting its objectives as the system matures.
To stop competing interests from hijacking the trillions stashed in the ‘Super’ system for their own political or economic interests, they plan to enshrine in law its primary purpose with the proposed wording: “To provide income in retirement to substitute or supplement the Age Pension.”
In a consultation set to close this month, it has outlined a new framework for a suite of Comprehensive Income Products for Retirement (CIPRs), which it sees as crucial to enable Australian retirees, who have among the world’s longest life expectancies, to navigate complex decisions and to manage the risk of outliving their assets.
Australian retirees are also years ahead of us in terms of what we now call ‘pension freedom’ – the right to take income or lump sums directly from account-based pension pots, which are similar to income drawdown in this country. While our own recent pension reforms have largely dismantled the requirement for mass-market retirees to pool risk, in Australia they want to encourage it.
They see it as a problem that individuals are trying to ‘self-insure’ against longevity risk, living more frugally in retirement than they need to and still potentially running out of money. They lack choice – in particular of products that efficiently manage longevity risk. And these issues are being compounded by the complexity of financial decisions, a lack of guidance in helping overcome behavioural biases, and a lack of appetite to seek professional advice.
The proposed solution will be known as a ‘MyRetirement’ product and will balance income, risk and flexibility. It will be a mass-market product offered by fund trustees and designed to be in the best interests of the majority of members, providing an ‘anchor’ to guide the retirement income decision.
No-one will be forced to buy one, but those who do should receive an efficient retirement income stream that is 15% to 30% higher than an account-based pension drawn at minimum rates, and peace of mind through security of income for life.
Pathway to guide
One of the key points they have recognised is that it is not enough just to create a product – there needs to be a pathway to guide people, especially those who are not served by formal advice, towards solutions that are likely to be in their best interests.
Although we have more choice and competition in this country when it comes to addressing longevity risk, we also lack pathways aimed at guiding mass-market retirees towards good outcomes. Pension guidance is highly rated by those using it but take-up remains low, which we believe reinforces the case for introducing soft compulsion in the same way we now encourage pension saving unless people opt out.
In reality, good outcomes are less about reinventing the wheel and more about helping people use the right vehicle at the right time. The importance of guaranteed income falls as a retiree’s total income rises. And the desire for pension flexibility tends to be strongest in early retirement and reduce over time as people shift towards focusing on income value and security.
The optimum solution is often to phase from investment-based income early on to guaranteed income later, taking advantage of increasing rates with age and health deterioration and removing timing risk.
Although the UK may be lagging behind Australia on pension saving, if they can help their employees get the timing of retirement finances right, we have a golden opportunity to learn from their experience.
Stephen Lowe is group communications director at Just