This is an issue that is about so much more than the mechanics of automatic enrolment – it has a direct bearing on the future size and shape of the workplace pensions market, as well as the economics of running a pension scheme.
The Department for Work and Pension’s recent call for evidence on the best way to force the consolidation of small pension pots considered two possible options: pot consolidators, where pots below a determined threshold get pushed to a consolidation scheme; and 'pot follows member', where pots below the threshold get pushed to the active pot.
International evidence suggests that larger schemes are more efficient economically.
Each of these options could consolidate small sub £1,000 pots but either of the proposed small pots solutions has the potential to consolidate much larger pots, potentially until savers have only the active pot.
That may sound far-fetched in the UK context but it is exactly what the pathway has been in Australia.
We think there are three main points that the DWP needs to consider.
First, what is in the savers’ interest?
Second, what is consistent with other policy objectives? And third, how can a future market be economically sustainable?
It’s possible to score both policy options.
We think it’s possible to answer these three questions by taking the multiple consolidator option and using it to build a number of larger pension schemes that are held to a higher regulatory standard.
These schemes should be genuine workplace pension schemes and should have an obligation to accept business from any employer.
On the first point, there’s a convincing body of evidence that suggests there are considerable scale economies in pension provision and few scale diseconomies, provided that schemes are well governed.
International evidence suggests that larger schemes are more efficient economically and achieve slightly higher investment returns.
The risk of liquidity mismatch is just too great and hard to mitigate.
You would need enough consolidators such that the market is competitive at all levels and you would also need to avoid a situation in which any one entity (bar Nest, as provider of last resort) became too big to fail.
On the second point, the government has run a major policy programme to try and get defined contribution pension schemes to invest in less liquid assets.
The announcement at the Budget that the chancellor would bring forward further measures on this issue in the autumn and the pursuit by the Labour party of a similar agenda in the O’Neill review suggest that this issue is gaining in importance.
