Low government bond yields could have a devastating longer-term effect on the funding levels of UK pensions and place a major strain on the country’s lifeboat fund, according to an economic consultancy.
A report published by Fathom and Pension Corporation—titled “Who carries the risk?”—claimed lower government bond yields could force sponsors to pay out in excess of £10 billion a year between 2016 and 2025 to plug funding gaps in the pension funds, and more than £20 billion between 2018 and 2023.
“If yields stay low, the need to close pension scheme deficits will continue to act as a considerable drain on company resources.”Current official forecasts expect UK government bond yields to rise steadily over the next 15 years to settle at 5% by 2030. Co-authors Danny Gabay and Andrew Brigden, director and chief economist at Fathom respectively, modelled the effects of these assumptions on UK DB pensions as well as their own lower yield scenario.
“[Our] latest forecast has the policy rate of interest remaining substantially below headline inflation for at least the next three years,” the pair wrote.
“With scheme discount rates doing much less of the work in this scenario, the corporate sponsor has to do much more. If yields stay low, the need to close pension scheme deficits will continue to act as a considerable drain on company resources. More deficit reduction contributions means more company failures. In this simulation, we find one in five schemes will transfer both their assets and liabilities to the PPF by 2050.”
In contrast, the OBR’s forecasts for yields and interest rates have sponsors’ deficit reduction contributions to their pension funds running at roughly a quarter of the level seen in recent years, the authors said.
Fathom’s report also outlined a severe shortfall in index-linked bond issuance, which is set to have a severe impact on the de-risking plans of UK funds in the years ahead.
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