Jeff Salway: Public sector can show the way on pensions reform

IT HAS taken longer than it should have, but for public sector workers the writing is now on the wall, in big bold letters.

The Public Sector Pensions Commission report published yesterday not only spelled out the cost of maintaining public sector pensions in their current form, but offered a clue as to how the reforms may take shape. In short, longer working lives and higher contribution levels in return for lower pension payouts seem inevitable.

At a time when the government is seeking to accelerate the rise in the retirement age, the disparity between public and private sector provision has to be addressed. While the days of final salary pensions in the private sector are numbered, the vast majority of public sector workers are still in a final salary scheme, guaranteed a percentage of their salary at retirement. Add to that the cost to the taxpayer of funding public sector pensions, and we long ago moved from a position of asking whether something should change, to asking how far the reforms should go. But identifying the problem is the easy part. Offering solutions to the problem that are fair to both public sector workers and the private sector taxpayer is a massively difficult challenge.

The report published yesterday is not to be confused with the government's official commission on public sector pensions and its proposals are arguably more credible as a result, although a report led by the Institute of Directors cannot avoid being tainted by private sector self-interest. The campaign to strip down unfunded public sector pensions cannot be viewed in isolation from the crisis facing employers in the private sector. On the contrary, it's in the interest of private sector employers for public sector pensions to be downgraded to help them justify their own actions.

However the commission has put forward several reasonable proposals, including the (inevitable) increase in the state pension age for public sector employees; higher employee contributions; and a reduction in the accrual rate from one-sixtieth to one-eightieth of pension a year, a move that would save an estimated 10 billion a year. The commission said public sector workers would need to save more than 40 per cent of their salary each year (including employer contributions) to fund the final salary benefits they are currently building up.

This is where public sector workers can expect the biggest shift in the coming years, as they are asked to take more responsibility for their own pensions. In this sense, public sector workers will to an extent be victims of the retrenchment in the private sector, where pension risk has been transferred irreversibly to the individual. Yet the reform of public sector pensions should not seek merely to replicate the imperfect private sector model of pensions retrenchment, although the BBC has suggested otherwise.

It is to close its final salary scheme to new members later this year and significantly reduce the benefits paid to existing staff. Its progress will be watched very carefully.

But the Association of Consulting Actuaries (ACA) has rightly warned that we need to rebalance pensions provision across both generations and sectors, the prevailing cuts mentality risks undermining the broader issue of boosting pension savings across society. "Levelling down is a threat to all," said the ACA, and the government must implement reforms that provide incentives for employers and employees across both the public and private sector.

There's a danger that the situation is being viewed only through the private sector prism, meaning the effect will be to drag the public sector down to the private sector's level. More balance would be provided by looking at the pension funding difficulties facing workers regardless of whether they work in the private or public sector. Where is the commission addressing the pensions crisis facing those in the private sector? The government's proposed pension reforms have so far been underwhelming, and we won't know until the autumn how it wants to proceed with workplace auto-enrolment, scheduled to begin in 2012.

There are lessons to be learned from the way in which the private sector has moved away from final salary pensions — the public sector pensions commission would be very wise to absorb them before making its own proposals in the autumn. Public sector reforms setting a benchmark for the private sector would be an improvement on the reverse. z