Jane Hutton – Interview


tions two States in the US, Nebraska and West Virginia, who went from DB to DC. The US is hardly a socialist system. They went back to DB because DC was such poor value. With DC you have zero guarantees except for the state being expected to pick up the pieces. There are options in between, such as a collective defined contribution (CDC) system like the Royal Mail has pro- posed. But if you went back 40 years ago, funds like USS were set up similar to that. In 1974, pretty much all pensions were final salary schemes but increases with inflation came with the disclaimer: “pro- vided it can be afforded.”


Inflation was a lot higher back then, of course. Exactly, and what has gone wrong is that the regulations have been one sided. One of the things that happened is that the law changed to demand that you must give pension increases, regardless of the state of funding. Then regulators demanded such high deficit contributions that it risked bankrupting the company. Another problem is that in the 1990s, when things were going well, instead of saying, “we can build up our reserves,” the actuaries advised either making no contri- butions or reducing contributions. So the problem that we have now is thanks to the actuaries, which they won’t admit. On the other hand, we are now swinging in the opposite direction. TPR is working on the assumption that the covenant for USS is not strong, so you’re hearing: “We have to sort out the deficit in seven years.” But there have been reports that universi- ties, particularly those in the USS, are strong for at least another 30 years.


So how could we get a more accurate understanding of a pension scheme’s defi- cit at a given time?


One problem is that accountants talk about a valuation. It’s not a valuation, it is a budgeting exercise and as such it is long term, but it’s treated as if it must be paid


at once. It is important to keep in mind that changes to the pension scheme’s financial position don’t happen instantly. Valuations used to happen every five years, now they happen every three years, and TPR is trying to require reactions within less than a year. This is nonsense. Pension are long term. What you should be doing is looking at the cash-flow in the long term. If you think it is looking a bit worrying, then you make an adjustment. Instead we are seeing massive swings in the estimated deficits which results in positive feedback. The more you panic, the worse everything gets. But the deficit is a fiction – a conservative estimate. What matters is, do we have enough money to pay members? It doesn’t take a statisti- cian to see that the system is not working. The method is wrong because the deficit figures are so unstable.


This sounds a bit like you are arguing in favour of a more cash-flow aware or cash- flow driven approach?


Looking at cash-flows makes sense, but we need several different approaches to looking at the deficit. That is also one of the points the Joint Expert Panel [set to provide independent advice on the USS dispute] makes.


In terms of investment strategy, different bits of the government seem to want dif- ferent things. Local government schemes are being encouraged to invest in infra- structure not gilts. But the regulator is try- ing to suggest everything should go into gilts, but there are not enough gilts to go around. Quantitative easing is a policy designed to discourage people from investing in gilts, so TPR and the Treas-


ury are contradicting one another. Again, moving into gilts is not de-risking, it is attempting to guarantee a deficit rather than allowing for the possibility of a massive surplus. The USS pension fund has a surplus of around 9%. How much bigger a surplus do they want?


Can you explain this in more detail? If you look at their best estimate funding position, in the 2017 valuation [page 82, Annual Report 2019], you get a surplus of £5.2bn against liabilities of £54.8bn, even with some ‘prudence’, and they’re still coming up with a sufficiently pessimistic scenario to say they need to close the fund or have much higher contributions.


From the point of view of an employer, the safest way to manage DB deficits getting out of control is to close the schemes and switch to a DC system.


It is convenient for the regulator or employers, but a disaster for individuals, a disaster for the health service and a dis- aster for social services. They face the consequences of much lower pensions. You cannot shop for annuities in the same way you can for a box of eggs. So a shift to DC is fine if your primary interest is to make as much money as possible for the financial sector. The insurance companies involved in selling the annuities for DC pots (de-risking for employers) will get much higher fees than they would otherwise. That is one of the reasons why DC is so much less effec- tive. But if you have a responsible govern- ment, you should consider the effects on the wider economy.


In response to the interview, TPR said that they value reports from whistle- blowers and had met with Jane Hutton, but do not provide updates during an ongoing investigation. TPR also said that it does not assess the appropriate- ness of schemes technical provisions or discount rates based on predeter- mined relationships to gilt yields but judges their suitability on the risks in their funding and investment strategies and how trustees manage them. USS declined to comment.


Issue 91 | March 2020 | portfolio institutional | 21


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