DWP small pots proposal misses the mark on improving engagement

The paper states that the proposed “small number of consolidators will be able to generate scale at a greater rate, opening opportunities to invest in productive finance, benefitting the wider economy”. 

This factor appears to be the driving force behind the decision to select the consolidator model despite strong feedback that the pot follows member approach may be simpler for members to understand, given their deferred pension would follow them from employment to employment.

The desire to free up more money to invest in UK plc was not one of the five assessment criteria in January’s small pots consultation, which instead aimed to deliver:

• Net member benefits through improved value for money.
• Improved member engagement.
• A more competitive workplace pensions environment.
• Reduced administrative complexity.
• More confidence in the system for savers and taxpayers.

Proposed system introduces more complexity

In our consultation response, we argue that the proposals to introduce a clearing house or central registry brings more cost and complexity than is necessary and represents a significant investment in new infrastructure, with no firm plans yet as to who will pay for this.

In addition, the creation of a central infrastructure introduces a major cyber risk in creating a single source of data on members’ pension pots. One breach of this database, and member confidence is gone in a flash. 

Remember, we have seen some very high-profile data breaches this year, including illegal access to member data from up to 300 pension schemes by Capita, 40mn electoral roll records from the government’s database, and personnel details for 10,000 police staff in Northern Ireland.

Proposals ignore the work done on pension dashboards

As Royal London’s director of policy and communications Jamie Jenkins points out, so much work has been done already designing a framework for pension dashboards. 

This project has been delayed due to implementation complications, yet multi-consolidator in the proposed form introduces a system that is if anything more complex and uses none of the infrastructure. 

We should focus on completing dashboards and look at which elements of the ecosystem we can re-use for tackling small pots. 

The DWP appears disconnected from the industry in suggesting a system that ignores the opportunities dashboards will afford us.

Proposed system reduces competition

It could be argued that consolidating workplace pensions into a small number of large consolidator schemes will actually reduce competition in the market, by driving out smaller, nimbler players.

Adding this to the industry’s concerns that the multi-consolidator model is not the optimal policy to improve member engagement, and it is starting to look like the DWP has chosen its preferred policy based on a very narrow interpretation of value for money; namely:

1. an assumption that an oligopoly of large commercial operators will always provide lower cost pensions and continue to innovate as they would in an open market; and
2. that these schemes, better able to invest in illiquid assets, will always generate better returns than smaller schemes.

Not all bad

I do recognise there can be benefits to investment in illiquids. Not for nothing do some of the world’s largest overseas pension schemes – including the $460bn (£369bn) California Public Employees' Retirement System and the $575bn Canada Pension Plan – hold large tranches of global infrastructure. 

Investments in utilities, airports and highways tend to provide steady, inflation-proofed returns regardless of the economic environment.

However, whether they are suited to a portfolio will depend greatly on the balance of needs between liquidity (driven by value of net flows) and long-term income and growth (more a function of the maturity of the scheme and the age profile of the membership). 

Notably, just as the government is considering enforcing greater use of illiquids for defined contribution pension schemes, defined benefit schemes are reportedly cutting their exposure to these assets.

Smaller schemes cannot generally access infrastructure at a cost that can be borne within the auto-enrolment charge cap, and I agree this provides one more argument for removing uneconomic schemes from the market.

Focus on what the member needs

As both the Financial Conduct Authority and The Pensions Regulator are only too keen to tell us, price is only one aspect of value.

And consumer duty rules have gone to great lengths to ensure firms across financial services are making sure customers can truly understand the products they are being offered.  

The proposals for multi-consolidator are, by the DWP’s own admission, not necessarily the easiest for members to understand. 

Why, for example, would a member be better off having their pension pot moved from a provider they have a relationship with already (and likely an online account), to a new provider they have no relationship with?

There are better means of improving member engagement, including the pension dashboards and pot follows member. 

Consumers will generally better understand the concept of taking their pension with them from workplace to workplace. The primary legislation and the transfer standards and systems already exist for this, and, for very little additional work, 'pot follows member' could be a reality. 

Cleaning up of historic deferred pension pots could be done as a second phase, once the pension dashboards are in place, by re-using the newly set up ISP infrastructure.

Does the member really need investments in illiquid assets? I think that is an open question, and one that trustees and their advisers are best placed to answer. 

Trustees should be free to choose the right percentage of assets to allocate to these as part of a well-diversified portfolio, rather than having a set percentage mandated by central government. 

In summary, while solving the problem of deferred small pots will lead to a more efficient system and ultimately should lower costs for all schemes, the multi-consolidator model proposed does not meet the remaining assessment criteria from January’s consultation paper. 

There are better means of improving member engagement, including the pension dashboards and pot follows member. 

Concentrating workplace pensions into a narrow set of consolidators reduces competition in the market. The proposed clearing house or central registry introduces new cost, complexity and cyber risk to the system and could ultimately undermine member confidence if it leads to data breaches.

Reading the industry’s response, it is clear the DWP has misread the mood in the room on this topic, with the majority of both pension providers and industry bodies such as the Pensions Administration Standards Association and the Pensions Management Institute calling out the flawed logic in the proposals. 

I call on the DWP to reconsider its approach to solving small pots.

Jon Dean is head of retirement strategy at Altus Consulting