The time bomb

Less than a third of private sector workers have a pension

ON Monday, the CSO published fresh estimates of the proportion of Irish workers belonging to pension schemes. The estimates provided shocking evidence of the devastation wrought by the crash on workers’ retirement savings and the huge potential liability confronting the Exchequer (see panel).

The raw figures are bad enough. The proportion of Irish workers aged between 20 and 69 who are members of any kind of pension scheme fell from 51.2pc in October 2009 to 46.7pc in October 2015. Look closer. The situation is even worse. There were 1.945 million people aged 20 or over working in the Irish economy in the fourth quarter of 2015. Of these workers, 327,000 were employed in the public sector and a further 53,000 in the semi-states, a total of 380,000. It seems a reasonable assumption that most if not all these workers belong to pension schemes.

When public sector and semi-state workers are excluded, the proportion of private sector workers belonging to any sort of pension scheme falls to just 33pc, less than a third of the total. This compares to the 37pc of private sector workers who were members of pension schemes in October 2009.

Not alone has the proportion of private sector workers covered by pension schemes fallen even further since 2009, the quality of the pension coverage, even among those private sector workers who still belong to pension schemes, has also deteriorated.

In 2009, 52pc of workers who belonged to occupational pension schemes were in defined benefit schemes, where the employer guaranteed their post-retirement income, while 45pc were in defined contribution schemes, where the worker’s post-retirement income depended on the investment performance of the pension fund.

By 2015, 54pc of workers with occupational pensions belonged to defined contribution schemes, with only 46pc being in defined benefit schemes.

Unfortunately, the CSO figures don’t break down this reduction in the proportion of workers belonging to defined benefit schemes between the public and private sectors, but it’s difficult not to suspect that it was mainly private sector workers who got the mucky end of the stick.

The picture that emerges from the figures released last week is a grim one: fewer workers are making any provision for their retirement and even many of those workers who are have seen their post-retirement incomes left dangerously exposed to the volatility of the financial markets.

This reduction in both the proportion of workers belonging to pension schemes and the quality of those pension schemes comes at a time when the number of over-65s is set to soar.

In 2011, there were 531,000 over-65s in this country and 2.78 million people aged between 20 and 64. This meant that there were 5.25 people of working age for every pensioner. Things will be very different by 2046.

The CSO is projecting that the number of people aged between 20 and 64 will increase by only 6pc to 2.96 million by 2046 but that the number of over-65s will almost treble to 1.41 million. As a result, we will go from a situation where there are more than five people of working age for every pensioner to one where there will be just over two people of working age for every pensioner.

So what can be done to defuse the pensions timebomb? The fiscal implications of hundreds of thousands of retired private sector workers relying on the state pension for the bulk of their income don’t even bear thinking about.

Ireland isn’t the only country facing this problem. Faced with a similar prospect of an ageing population busting future budgets, Australia introduced compulsory pension contributions for all workers and their employers in 1992. Employers must now contribute 9.5pc of employees’ wages to an approved pension fund, a figure that will rise to 12pc by 2025.

A 2006 report by the Pensions Board recommended the introduction of Australianstyle mandatory pension contributions here.

These mandatory contributions would have been quite hefty, 15pc of eligible income, to be split between employers and their employees.

Not surprisingly, the report, which ran into fierce opposition from employers’ groups at the time of its publication, has been gathering dust for the past decade.

Successive governments may have sat on their hands and done nothing about the 2006 report, but the problem hasn’t gone away, it has got even worse.

The traditional private sector pension provision is broken beyond repair. A combination of increased life expectancy, poor investment returns, low interest rates and tighter regulation means that most companies can no longer afford old-style defined benefit pension schemes. By guaranteeing their employees’ post-retirement incomes, they have saddled themselves with huge future liabilities.

Bank of Ireland had a pension fund deficit of €740m at the end of 2015 and Smurfit Kappa €818m, while the deficit in the CRH pension fund was €462m. The most recent figures from the Pensions Board show that there were 666 defined benefit pension schemes at the end of 2015, down from 703 at the end of 2014.

However, not alone are many defined benefit schemes being wound up — 33 at the end of 2015 — many of the surviving defined benefit schemes are closed to new members, with 163 schemes being listed by the Pensions Board as “frozen”. This means that there were only 503 current defined benefit pension schemes at the end of 2015, down from 551 at the end of 2014.

And things are almost certainly going to get a lot worse before they get better.

An Irishman born in 1940 could expect to live for an average of 59 years. His grandson born in 2010 has a life expectancy of 78.4 years. The increase in female life expectancy over the same period has been equally dramatic, from 61 to 82.8 years. Half of all the baby girls now being born can expect to live past their 100th birthday.

At the same time as life expectancy was soaring investment returns have been no better than mediocre with the average Irish active managed pension fund delivering average annual returns of 4.7pc over the past ten years and 4.1pc over the past 15 years, according to figures compiled by Rubicon Investment Consulting.

Throw in the period of ultra-low interest rates we have experienced since the 2008 crash and things get really scary. Low interest rates, by increasing the present value of future liabilities, pay havoc with pension planning.

Someone in their twenties joining a scheme today could reasonably expect to be still receiving a pension in 2086, 70 years from now. The present value of liabilities falling due so far into the future is extremely sensitive to longterm interest rates.

If a pension scheme with a €1m liability falling due in 2086 used a 5pc discount rate (a sort of reverse interest rate that is supposed to reflect current long-term interest rates) then it would have a present value of only €32,866. Cut the discount rate to the 1pc at which at long-term bonds are currently trading and the present value soars to €498,313.

So what can be done? The traditional retirement age of 65 is going to have to rise to reflect increased longevity, probably to least 70 and maybe even higher. Most of us can also expect to receive a smaller pension when we do retire. Oh, and anyone hoping to retire in the next ten or 15 years should pray for higher interest rates.