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Keep profit out of pensions

Rory O'Kelly on Tory plans to means test pensions

We often hear it said that we have never been able to find a solution to the problem of pensions. The fact is that we found the solution in 1977 and have been retreating from it ever since.

The 1977 system based entitlement on contributions and related pensions to earnings. In addition to the public system there was an option for private sector schemes to opt out by providing equivalent or better benefits, in exchange for which National Insurance contribution rates were substantially reduced for employers and employees. This contributed to the spread of final salary schemes in the private as well as the public sector. The overall effect was that those in continuous well-paid employment tended to be in opted out schemes while the public sector catered more for people (particularly women) with intermittent employment records. Pensions through this route would generally be lower in absolute terms but much higher relative to contributions. The overall effect was strongly redistributive.

The political opposition to this system was due simply to the fact that nobody made a profit out of it. The financial services industry only likes money purchase schemes, which give the opportunity for huge fees and charges. It dislikes occupational pensions, where the commissions are much lower, and hates public schemes, where there are none. Essentially financial services are not a capitalist enterprise as usually understood but a system of private taxation which thrives by establishing a right to take a rake-off whenever money moves around the economy.

This perspective was adopted by Conservative and New Labour Governments which agreed that a pension system which is no use to anyone except pensioners is no use at all. As a result the state additional pension has been much weakened and the conditions for opting out of it loosened. Employers can opt out by paying into a money-purchase scheme with no defined benefits. The decline in final salary schemes in the private sector is explained simply by the fact that Governments have shifted the incentive structure against them. This fact is rarely mentioned in public discussions of pensions.

Since 1979 the value of state pensions has also reduced because increases have been linked to prices rather than earnings, though Governments have repeatedly promised to restore the earnings link at some future date. This is quite anomalous since National Insurance contributions, which are charged as a percentage of earnings, are obviously linked to them. This is a major reason for growing surpluses in the National Insurance fund, now amounting to about £50 billion.

This understates the problem. Much of the money paid in NI contributions does not reach the fund at all. Since 2002 some has been siphoned off to subsidise general taxation. From next year this will be 3% of earnings from employees, around £20 billion per year in total. For most of us it does not matter much whether this money is taken by way of Income Tax or NI contributions but for the millionaires in the Cabinet, and their even richer friends, the NI route is better since their unearned incomes from dividends and trust funds are exempt.

The overall conclusion is clear. Since 1979 the whole National Insurance system has been run as a systematic and deliberate fraud against the wage-earning public. Ironically, this probably explains its survival. The governing class dislikes National Insurance because it offers no direct opportunity for profit and, more fundamentally, because it demonstrates mutuality in action. It is probably unique in moving very large sums of money from relatively poor people to other relatively poor people without it going through the hands of rich people on the way. On the other hand it offers excellent opportunities for extortion from working people and tax avoidance for the rich and for this reason right-wing Governments have not quite been able to bring themselves to abolish it.

The question is, why do the public put up with this? More specifically, why do they not feel any sense of ownership of their Fund, or of resentment when it is abused?

The Coalition's latest proposals make this question more immediate, though not in relation to pensions. The latest proposal in the White Paper from Ian Duncan-Smith is that contributory ESA (the successor to contributory Incapacity Benefit) should be paid for only a year. After this, even if the person's illness and incapacity for work are undisputed, they will be forced to rely on means-tested benefits or support from their families.

This is an astonishing act of confiscation. We see a Western European government simply repudiating its debts and its obligations, on the ground that it would be inconvenient to pay up. It cannot even be said that it is difficult to pay since, as shown above, the fund from which payments are made is hugely in surplus.

One might ask what would happen if the Government took a similar attitude towards its bonds. If, that is, after selling them on the basis of a set of promises about interest and repayment it then refused to pay. It is fair to say that in effect this would be regarded as equivalent to the country declaring itself bankrupt, a pretty major development. By contrast the proposals on National Insurance benefits have been regarded as a minor technicality.

The fundamental problem is that people do not see the rights which we obtain by paying NI contributions as 'property', in the same way as the rights which we gain by making any other kind of investment. The left has always been rather sceptical about basing rights on the concept of property, pointing out, correctly, that it offers formal but not real equality. Obviously security of property is more valuable the more you own. What this shows however is equality of rights to property is insufficient as a means towards substantive equality, not that it is unnecessary. Without it we drift into our present situation in which a Government can say quite openly that the only promises which need to be kept are promises to the rich and the only rights which need to be honoured are the rights of the rich.

Will the Human Rights Act offer any protection against the Government's confiscatory ambitions? Certainly the European Courts have accepted benefit entitlement, particularly where based on contributions, as 'property' and have therefore protected it in some contexts. This is the first time, however, that this approach would involve protecting citizens against a major thrust of Government policy.

It is interesting to see Human Rights thrust into the firing line in this way. There has been a temptation to see the major human rights in the legislation rather in the 'motherhood and apple pie' category. Do we really need to prohibit slavery and forced labour, for example? Is anyone really going to try to revive slavery in Britain? This was before we saw the Coalition Government, fully supported by the Labour front bench, legislating to introduce compulsory unpaid labour for the unemployed.

The conclusion is that we need to take a more robust attitude towards our rights, based on understanding that they will not look after themselves. Where National Insurance is concerned we need to remember that it is a reciprocal system. We are obliged to pay in, but we are entitled to get something back out as well. Somehow we have allowed ourselves to be persuaded to forget this. The left has never really embraced the insurance principle for Social Security, perhaps because we are always hoping for something better. As a result we always find ourselves being fobbed off with something worse.

The Government's latest proposals are about the worst yet, based around locking almost everyone on average incomes or below into a universal system of means-testing. In its response the Labour front bench accepts almost the whole package, proclaiming repeatedly that there is a 'consensus' about Social Security. It is a consensus which covers the whole political class but excludes all those directly affected.

The irony is that we do not need to look far for an alternative. The alternative system already exists, having been invented in 1948 and revived in 1977. All we have to do is use it.