Adrian Boulding: changing our perception of normal

These low interest rates hurt those saving for a pension. In defined benefit schemes, they manifest themselves in higher scheme deficits.

Employers and trustees are finding that their previous attempts to bring scheme funding levels up to 100 per cent are often proving ineffectual.

And in defined contribution schemes they mean that savers will have to set aside larger pension contributions each month to achieve the desired level of retirement income.

So how long will we have to wait until interest rates ‘normalise’? And what do we mean by normal anyway?

In the August inflation report, Sir Mervyn King reminded us of what he has said many times before, that the recovery and rebalancing of our economy will be a long, slow process.

The Pensions Regulator is also unwilling to entertain the idea that low interest rates may be a short-lived feature.

Their latest guidance on pension scheme funding rejected calls to allow trustees to smooth the discount rate.

Although the regulator accepts that long-term index-linked yields are at all-time lows, they say there is no certainty that interest rates will return to more normal levels, or what the new normal might be.

Perhaps we should face up to a new reality. Interest rates will not rise back to normal levels.

Rather, our perception of what normal is will reduce over time as we get used to low levels of interest rates.

This seems to me wholly consistent with the underlying philosophy of pension saving.

Today’s workers save money in a pension in the expectation that tomorrow’s workers will look after them in retirement.

The interest earned on the savings drives the degree of luxury that tomorrow’s pensioners will live in.

And as the Western world looks set for a prolonged period of low growth, tomorrow’s workers will not be able to support tomorrow’s pensioners in any form of luxury retirement at all.

Low interest rates are commensurate with this. High interest rates would transfer too great a proportion of future wealth to pensioners.

Once we accept low interest rates are here to stay, two things become urgent.

In DB, trustees must take a more aggressive stance with employers to get scheme deficits repaid.

And in DC, we must redouble our efforts to cut costs and charges, and support those shining the torch into the murky corners where hidden costs may still be concealed.