So what's a funded pension? Well,
a funded pension is one in which your pension is drawn completely from the realisation of returns on the investments of
contributions into a pension fund that typically both you and your employer have made contributions into during your working life.
Now, this fund might be held by just you as an individual,
as in the case of traditional individual defined contribution pension pots or four or one K arrangements, which I discussed last week.
Or the fund might be held collectively with others with whom one pools risks.
Now the funded occupational defined benefit pension scheme,
which was the topic of my first lecture and collect defined contribution, CDC, which was the topic of my second lecture.
Each involve collective funding. No.
Investment risk poses perhaps the greatest challenge for funded pensions.
So especially in recent years, with government bond yields as low as they are,
the low risk option of investment in long dated inflation linked to government
bonds that match the pensions liabilities has become extremely expensive.
In order, however, to reap the premium of higher expected returns on equity and property,
one must contend with the risk that these returns will fall far short of expectation.
The last two lectures, I considered a number of different ways in which individuals and collectives might try to manage these risks.
Now, needless to say,
none of these ways provides a foolproof method of dealing with the uncertainty of returns on investment in equities and property.
Now, in light of the problems to which investment risk gives rise,
I think would be worthwhile to consider the merits and promise of another form of pension provision,
which doesn't involve the investment of contributions which have been deposited into a pension fund.
Now, since you say D.C. and I say DBI in others say CDC, no CDC, perhaps we should not call the whole funded pension thing off.
And that's why in today's lecture, I shall consider the case for pensions that are provided on an unfunded pay as you go basis.
Now, with the pay as you go pension scheme,
money is transferred from those who are currently working to pay the pensions of those who are currently retired.
Like many other state pensions, those in the US and the UK are pay as you go.
So rather than drawing from a pension fund consisting of a portfolio of financial assets,
US and UK state pensions are paid out of annual tax revenues.
Now, the pension one is entitled to retirement is, however, based on,
even though not funded by the contributions one is made during one's working life in the form of a payroll tax.
Now, in some countries, neither eligibility for the basic pay as you go state pension n level is conditional
on contributions of portions of one's earnings during one's working life.
Now these arrangements are more akin to other forms of welfare spending involving redistributive transfers funded solely by general taxation.
Now, there remains a non-contributory residency requirement for eligibility,
as in the case of other forms of welfare spending, in some cases it is merely a threshold residency requirement.
All who've lived for give a number of years are eligible to the same degree.
Now, in the Netherlands, the residency requirement is scaler rather than a threshold.
So the level of the basic state pension to which one's entitled increases on the
basis of the number of years that one has been a resident of the Netherlands. Now, many public sector occupational pensions are also pay as you go.
So in the United Kingdom, the pensions of NHS workers, civil servants and members of the armed forces are on an unfunded pay as you go basis.
Now, the teachers pension scheme in this country is another example, and it's of special relevance as a benchmark of comparison with USS.
Because alongside teachers in primary and secondary schools, teachers in most of the universities that have been established since nineteen
ninety two are also members of this pay as you go teachers pension scheme.
Now, in the case of these public sector schemes, there are employee and employer contributions roughly, you know.
So it's in that respect similar to private occupational schemes.
But unlike funded schemes,
the contributions go straight into the coffers of the Treasury rather than being invested as a portfolio of assets in a fund.
And then pension payments also come from the Treasury's coffers.
Now. The case for unfunded pay as you go, as opposed to funded pensions is, I think,
strong when there are compelling grounds to redistribute income from those who have the good fortune to be high earners,
to those who suffer the misfortune of lower earnings,
where such redistribution cannot be achieved by means of the risk pooling of the earnings of different people,
that's in the actual ex ante self-interest of all who enter the pool.
So in other words, unfunded pay as you go is justified when we require the services of Robin Hood and not just insurance of a mutual association.
Now, like a number of other unfunded pay as you go state pensions, the UK state pension is in fact highly redistributive from higher to lower earners.
The amount that one contributes is proportional to one's income up to an income ceiling.
But the amount of one's annual pension in retirement is proportional,
and the UK simply did the number of years when it's worked and made mandatory contributions on income that exceeds a very low amount and therefore
money is transferred from high earners to low earners with the goal of relieving poverty in old age on what has come to be known as the Beveridge,
as opposed to the Bismarck approach to state pensions.
Now, this sort of arrangement, highly redistributive, would probably not be in the actual ex ante self-interest,
which to adopt at the point at which one leaves full time education and begins one's work and career.
And that's because even at the early point of entering the workforce,
each person probably has a fairly good idea of whether his expected earnings will be high or low.
It would probably or maybe not be in the rational self-interest of those who expect to be high earners to choose a state pension along UK lines.
They may need to impose a thicker hypothetical veil which deprives people of knowledge of their talents and therefore their earning potential
in order to render in the rational softeners of each to choose such a redistributive state pension at the beginning of his adult life.
No. Door Kenyon Lucke Egalitarian would offer just such a justification based on hypothetical
insurance choices for an unfunded redistributive pay as you go state pension.
Well, what I want to do is consider the question. Whether there is the reciprocity.
B, for an unfunded pay as you go pension, such as the American or the UK state pension in particular,
might such an argument provide a realisation of reciprocity in the roles and sense of fair terms of social cooperation for mutual advantage,
which, while situates as follows in the quotation on the screen?
Between altruistic impartiality and mere mutual that draws as in political liberalism,
the idea of reciprocity lies between the idea of impartiality, which is altruistic, being moved by the general good.
And the idea of mutual advantage understood as everyone's being advantaged with respect to each person's present or expected future situation,
as things are, as that's understood in history,
just as reciprocity is relation between citizens expressed by principles of justice that regulate a social world in which everyone benefits,
judged with respect to an appropriate benchmark of equality defined with respect to that world.
Now, the fact that people would prudently select redistributive pay as you go state pension from behind roles is hypothetical veil.
Ignorance is, I think, insufficient to establish that it embodies this idea of reciprocity.
Now, there are, I think,
the following reasons why it's hard to interpret Rawls in solving the free choice behind the veil of ignorance as involving reciprocity.
First, it doesn't involve an agreement or even [INAUDIBLE] for tat interaction between different individuals,
but rather involves a cell phones for choice of a single individual's point.
Jean Hampton made decades ago in second.
The choice of self-interested only on the hypothetical assumption that the individual might turn out to be any member of society.
Now, just to briefly elaborate on the second point. Ferrell, The voice was not in everyone's actual self-interest.
Moreover, it's in everyone's ex ante self interest only by virtue of the imposition of a veil that renders one ignorant of one's fate,
the normative appeal, the claim that the chosen option used to the advantage of each is undermined if we
can provide such a justification only on the assumption that nobody knows who he is.
Now, Rawls maintains that his original position models a fair system of cooperation for mutual advantage between free and equal persons,
but on account of the impartiality of the choice of the bail insurers amongst symmetrically situated
individuals would be chose me on the veil might constitute a fair system of cooperation amongst equals.
But it might not be the mutual advantage to the mutual advantage of the parties.
Now, the point that Brian Berry made a while ago,
such choice behind the veil might be better understood as modelling impartial altruism than reciprocity.
So we shouldn't be misled by Rawls. Is modelling involving self-interested choice into thinking that the terms of
cooperation chosen in his original position are to the mutual advantage of each?
So let's see if we can provide an account of the reciprocity of a pay as you go pension scheme,
which doesn't require this hypothetical imposition of a Rausing in veil in order to see whether
we can demonstrate that mutually advantageous changes nature of the scheme without the veil.
Well, worker contributions that pay for the pensions of those in retirement in an unfunded pay as you go
scheme are not in return for benefits that those in retirement confer on this group of workers.
And therefore, what's going on in the pay as you go pension scheme differs from the typical bi
directional form of reciprocity in which parties exchange benefits with one another.
One might, however, try to draw an analogy between pay as you go.
In other intergenerational arrangements, where these other in your generate rational arrangements are plausibly characterised as reciprocal,
even though their unit directional in nature rather than involving this bi directional exchange between parties.
Now. Rawls was so called just saving, Tibble might actually provide a nice illustration.
Now, I won't go into details of his principal, but amongst the requirements of Bowles's just savings principle that each
generation should save for the next at least as much as the previous generation,
save for it. Rawls maintains that since generations are spread out in time and actual economic benefits flow in only one direction,
there is no way for later generations to help up for that.
For later generations to help the situation. Police force an earlier generation.
When these generations are not overlapping so each generation therefore benefits the next generation by saving for it,
but not in exchange for any benefit that the next generation confers on it.
Now, in spite of its Unitech directional nature just flowing in one direction into the future, a case can be made that Rawls is just savings.
Principle is in fact grounded in a principle of reciprocity involving the notion of fair return,
where the fair return is now to a party other than the party from which one has received the benefit.
Rather, any given generation is obliged to benefit the next generation.
In return for benefits it's received from the previous generation.
Now, adjust savings principal might be conceived as a form of cooperation insofar as it is to the mutual advantage of each.
So along these lines, Rawls writes. If all parties are to gain, except perhaps the earlier ones,
the parties must agree to savings principle that ensures that each generation receives its due from its predecessor and does its fair share.
For those to come, perhaps the charge of free riding off of the efforts of others can be invoked
to condemn those who benefit from the savings of their ancestors without,
in turn passing on comparable savings to their descendants.
Now, though, this would not involve an appeal, the reciprocity in the ordinary sense involving bi directional exchanges,
it might be thought to involve a version of reciprocity more widely understood.
No. In a manner analogous to that of an unfunded pay as you go pension scheme,
but at the level of individual members of the family across overlapping generations,
can be more has argue that conformity to a norm of benefiting one's elders might be a mutually advantageous Nash equilibrium,
which is to say, an equilibrium in which each does better for himself by conforming rather than defecting.
Given the choices of others. So this is can Benmore is case involves what we might think of,
as is the slight extension of my Robinson Crusoe case from last week, whether it's just a single individual on this desert island.
Now we have more than one individual. He says. Imagine a world which only a mother and a daughter are alive at any time.
Each player lives for two periods. The first word is, are you?
And the second is our old age. In her youth, the player bakes two large loaves of bread.
She then gives birth to a daughter and immediately grows old. Old players are too feeble to work and so produce nothing.
One equilibrium requires each player to consume both her loaves of bread in her youth.
Everyone will then have to endure a miserable old age. But in this case, everyone will be optimised, given the choices of others.
Well, all players would prefer to consume one loaf in their youth.
And one love in old age to spread out their consumption into old age.
But this fair outcome can only be achieved at the daughters.
I'll give one of their loaves to their mothers because bread perishes if not consumed when baked.
So a world in which each conforms to a norm of sharing with one's elder is better for each.
In a world in which nobody conforms, or rather each person hoards benefits for herself rather than giving anything to anyone else.
Now been more then goes on to offer the following explanation of how conformity to enormous sharing might emerge.
Well, he says. He knows mothers can't retaliate. With their daughter.
Selfish. But the fair outcome could nevertheless be sustained as an equilibrium.
So in this fair equilibrium. Conformance is a player who gives her mother a loaf if and only if this is the norm.
Give your mother love. If and only if her mother was a conformist in her youth. So conformists, therefore reward other conformists.
And punish nonconformists. So to see why a daughter gives her mother a loaf supposes Alice, Beatrice and Carol are mother, daughter and granddaughter.
If Beatrice neglects the Alice, then she becomes a nonconformist. And Carol, therefore punishes Beatrice to avoid becoming a nonconformist herself.
If not, she'll be punished by her daughter and so on.
If it had been more, says the first forum, players deemed to be a conformist is therefore appropriate equilibrium for everyone to be a conformist.
Everyone is better off than they could otherwise be. Given the choices of others.
Joseph Heath has employed a similar model to try to show that unfunded pay as you go pension
schemes embody a form of indirect reciprocity involving intergenerational cooperation,
where benefits flow in one direction only. So workers of one generation pay for the pensions of those in retirement at that time.
In return for having their pensions paid for the next generation of workers when they retire.
He describes a motivation to contribute, to pay as you go university pension in the following terms, he says.
Every month, a fairly large portion of my salary is deducted from my paycheque and essentially
handed over to one of my America's colleagues at the end of the year,
I'm sent a letter telling me what my own anticipated monthly pension will be based on my current salary and accumulated years of service.
But he says it's nothing more than a promise and a weak one at that.
It's hostage to all the vicissitudes of employee employer bargaining over the next 20 years.
So then he asks this question, so why do I agree to this? And his answer is as follows.
He says it's because I'm confident that when I'm older and retired, there will be a new generation of young professors.
We're willing to do the same thing for me that I'm currently doing for my emeritus colleagues.
Let me ask you why you like nation willing to hand over five percent of their salary to me in a while ago,
an employee contributions weren't as high as they are now. He says certainly.
Why should I expect the next generation be willing to hand over five percent of their salary?
Certainly not out of gratitude for the fact that I am doing so now to the benefit of my older colleagues.
Rather, because I expect them to expect that they will someday have younger colleagues who will do the same for them.
That is that the change of cooperation will continue on into the future unbroken.
Whether the pension scheme will remain, as I say, a going concern.
Unlike Ben Moore's case in which one's contribution is directed towards a single individual to whom one house special ties one's mother,
workers pensions contributions are anonymously spread out amongst a group of strangers.
So the choice of individuals to make contributions to a large,
anonymous scheme can't readily be explained as a socially enforced norm that gives rise to a Nash equilibrium.
Rather, the need for enforcement mechanisms which ultimately involve the threat of state imposed penalties.
Now, in the case of employer based pay as you go, pensions members don't actually voluntarily pay pensions contributions into employer scheme.
On your understanding that if they do that,
the next generations of workers will voluntarily pay into the pension scheme as well in accordance with normal conformity,
which is an Nash equilibrium? Rather, what underpins such a pension scheme is rather a standard bilateral,
reciprocal than legally enforceable contract between the members of a given generation
and the institution that promises them a pension in return for their contribution.
Where this institution is the state in the case of a public sector pension scheme.
Now, a pay as you go defined benefit, private occupational pension would also involve a promise by the employer.
Moreover,
employer based pay as you go pensions could not be sustained in the absence of such an enforceable promise that the employer extends to workers.
Now, the case of a state pay as you go pension contributions are explained by the fact that
the state makes a mandatory in a manner that's backed up by threat of punishment.
The state could not rely on individuals voluntarily making contributions in accordance with a norm that
gives rise to a Nash equilibrium anymore than they could rely on the voluntary payment of other taxes.
So if a voluntary norm in Nash equilibrium along the lines of what Ben Moore
sketched plays any role in explaining how state pensions are sustained over time,
I think we'll need to be at the level of the collective of the demos the electorate, rather than at the level of individuals.
State pensions contributions are mandatory,
but states tend to provide themselves with a fair amount of discretion in the pensions they end up paying people in retirement.
So unlike a contract between employer and employee for an occupational pension,
the state pension is not, in fact, underpinned by a file by a bilateral reciprocal contract.
That's legally enforceable between the state and the individual in which the state
promises each individual given level of pension in exchange for his contributions.
Rather, the state pension can and has been altered, the Democratic will.
The fact, however,
that states continue to voluntarily pay pensions might be explained by the following Nash equilibrium at the level of the collective.
Voters democratically choose to continue to make contributions to pay for the pensions of those in retirement,
not just because the elderly vote in disproportionate numbers.
But because workers realise that if they vote to stop making contributions towards the pensions of those in retirement,
stop paying their national insurance contributions,
then the next generations of workers will vote against making contributions towards their retirement.
Now, assuming that the members of the different generations are equally situated,
this mutually advantageous Natalie Nash equilibrium might be described as an instance of the type of roles and reciprocity that I introduced earlier,
one in which a relation between citizens is expressed by principles of justice that regulate a social world which everyone benefits,
judged with respect to an appropriate benchmark of equality, quoting recording from awls earlier.
But as we shall see in a moment. However, the assumption that the members of the different generations are equally situated is unsound.
The first generation is, in fact, privileged over others.
And hence we don't actually have this requisite benchmarking of equality amongst all the generations.
So here's the unfairness of the first generation. In actual fact, usually United States, the United Kingdom.
Unfunded. Pay as you go, state pensions devolve the prima fascia unfairness of the first generation getting a free ride since they made few,
if any, contributions into the system. So the first American, for example,
to receive a monthly Social Security cheque had paid only twenty four dollars and seventy five cents in contributions
over three years before she received her first monthly cheque of actually twenty two dollars and fifty four cents.
Now after her second cheque. She had already received more than she had contributed,
and she ultimately reached her 100th birthday and collected a total of twenty two thousand eight hundred eighty eight dollars and ninety two cents.
Now, here's the theoretical possibility. I just interesting.
Theoretically, at least in theory. We could construct an almost entirely unfunded pay as you go state pension scheme in which the first generation
to receive a pension in retirement makes contributions into the scheme throughout their working lives.
But unlike a normal pay as you go scheme, these contributions don't go towards any pension and payment at the time.
Since my hypothesis, there are Arnon's first generation to contribute to pay as you go pension.
But now suppose that these contributions were instead invested. Ring fenced, held under the payment.
Of. OK. So, so, so, so first,
suppose that the first generation's contributions are instead invested Ring-fence and held reserve for the payment of their own future pensions.
The same arrangement was applied to all subsequent generations,
while in that case we would just transform the arrangement into a funded pension scheme.
But now suppose a different possibility.
Suppose that the pensions contributions of the first generation were instead invested ring-fence and held in reserve.
To pay and retirement the final generation.
Of contributors during their working lives. In the event of the eventual scheme, closure.
Now, in this case, all generations were equally situated insofar as each generation which receives a
pension would also make contributions that pay for the pensions of another generation.
And hence each generation would pay the pensions of the previous generation and take, well, typically unfunded pay as you go fashion,
except for the first generation whose contributions would look forward to the final generation.
And that, by the way, explains the photograph on the title page.
There's the looping for that supposed to be represented by that photograph.
Now, apart from the fact that the first generation's contribution to be held and invested in a fund for the last generation,
this would actually be an unfunded pay as you go realisation of an indirect form of roles in reciprocity.
Reciprocity obtains which each generation both contribute just to another generation's
pension and receives contributions for its own pensions from another generation.
Now, this looping arrangement would, incidentally, also provide a solution to the problem of backward induction that's been pressed
against pay as you go scheme schemes where it's known that they will eventually close.
We know there's going to eventually close or if you know when it's going to close and you're going to
stop contributing into it because you know that there will be no one in the future to contribute for you.
But then the next generation before that will stop contributing and so forth.
So it zips back to the guidance and public, Gustafer Annual says, as has raised against the pay as you go scheme.
And this provides a solution to that problem. It is, however.
A merely interesting theoretical possibility.
I think no, actually existing pay as you go scheme has ever involves such a looping forward arrangement with the first generation of contributors.
Contributions are ring fenced and invested for eventual scheme closure generations in the future.
Nor, I think, is it likely at all that such a scheme will be implemented in the future.
But this merely theoretically interesting possibility does, however, set the stage for the consideration of another version of pay as you go,
which I think realises reciprocity in so far is each generation both fully contributes to and receives from an ongoing pension scheme.
Now, this particular pay as you go arrangement, which I would now like to turn to.
Involves a notional funding of all pensions promises, including those of the first generation of pensioners.
In fact, isn't this this isn't merely an interesting, interesting theoretical possibility that actually has been realised.
Practise and live under. There you go. And since I think it has many virtues, I'd like to consider the case for it.
What I'm going to do for the remainder of today's lecture is consider the case for notionally funded pay as you go scheme.
And here's how notionally funded pay as you go scheme works. As in the case of funded, defined benefit pension schemes, which I discussed in week one,
workers and employers put in pensions contributions each year in return for which they're promised a pension in retirement.
The pensions of every member of this pay as you go scheme, including those are the very first generation,
are, moreover, directly proportional to the level of their contributions throughout their working lives.
Therefore, the first generation of pensioners does not ride free on the contributions of younger workers.
And so the complaints are raised against pay as you go. State pensions a few moments ago doesn't apply.
Now, you know, United Kingdom public sector pay as you go. Pension schemes provide a good example of how such notional funding works in practise.
The cost of the pensions that public sector workers in this country are promised is covered by the contributions of employers and numbers.
And then plops in this room right here on these contributions.
Now, this assumed rate of return also serves as the rate at which the pensions liabilities are discounted, serves as the discount rate.
Now, as in the case of a generally funded, defined benefit pension, the higher this assumed rate of return,
the lower the contributions required for a pension of a given level.
Now here, however, the funding is merely notional.
It's not actual since contributions are not placed into a fund which is genuinely invested in assets.
Rather, the contributions go into the coffers of the U.K. Treasury. Well, question.
How is this notional rate of return set?
Well, it said not as the expected rate of return are on the capital of a hypothetical portfolio of financial assets.
Not even a hypothetical portfolio, let alone an actual portfolio, but rather our asset as the expected, long as they are the discount rate is that,
as expected, long term rate of growth, g of the economy or the expected long term gross domestic product growth.
Growth rate of GDP. Well, what's the rationale for setting the discount rate as G.
Well, the rationale is that pay as you go pensions are funded by tax revenues, which grow roughly in line with the growth in the economy,
and hence the hypothetical assets of the scheme are metaphorically conceived as claims on future tax revenues.
So, as the Treasury has explained, the government is not persuaded that rate consistent with the private sector and other funded schemes,
would be an appropriate choice as the discount rate used to set unfunded pension scheme contributions.
That discount rate reflects the cost inherent in a scheme backed by a portfolio of assets, traded bonds and equities,
which are held by the unfunded public service schemes where the assets are claims on future tax revenues, unquote.
Now, in setting the rate of return on pensions contributions as the rate at which tax revenues are expected to grow.
The Treasury maintained that they thereby take into account the costs that's passed to future taxpayers on a fair and sustainable basis.
That seems like a plausible claim. No. There are some efficiency based grounds or there would be some efficiency based grounds for preferring
a pay as you go to a genuinely funded pension scheme such as the low cost of administration.
In contrast, the relatively high cost of good management of the asset portfolios of funded pension scheme.
And spray notionally funded pay as you go pension scheme might be especially forthcoming when G is greater than R,
where G represents a rate of per capita, not merely aggregate growth, but the economy.
In that case,
it should be possible to provide better pensions for all by means of a notionally funded pay as you go scheme which pensions are paid out of tax
revenues that increase at the rate of G as compared with a genuinely funded
scheme whose assets grow at this assumed lower rate of return on Capital R.
Such a notionally funded pay as you go pension scheme could be justified as to the reciprocal mutual vange of each.
In comparison with a genuinely funded scheme.
Now, if Thomas Piketty is right, however, that it was an aberration, that G was greater than are due in the 20th century and that is greater than G.
For substantial and that are is greater than G as the historical norm throughout most of history.
Well, that would undermine this efficiency based case for pay as you go overfunded provision of pensions promises,
at least during the next several decades. If ours is greater than, gee, it undermines but does not defeat the case for pay as you go,
since, as I hope now to show case can be made for pay as you go.
Even when AH is greater than gee, which is to say, even when the rate of return on capital exceeds the rate of growth of the economy.
To make this case, what I'd like to do is begin by drawing attention to some, I think,
striking parallels between a notionally funded pay as you go defined benefit scheme and a genuinely funded one,
where these parallels shed light on what a notionally funded pay as you go pension actually consists of.
And when the case for it will be compelling.
Now, as I mentioned in my first lecture, some people maintain that defined benefit scheme should purchase and hold long dated inflation index linked.
Government bonds. He says the fund matched the liabilities of the pensions promises.
I made the case for a less expensive funding by means of growth assets.
Well, I me make a different point. Now we're going to revisit the case for funding DBI by growth assets.
The different point I wanna make now is that pensions contributions for a notionally
funded pay as you go scheme actually constitute the purchase of government bonds.
And here's why. To think about what's going on in the notionally funded pay as you go scheme, such as the teachers pension scheme.
In exchange for employer and member pensions contributions that go to the Treasury's coffers, the government makes promises.
To teachers to pay pensions, such promises amount to illiquid, non tradable government annuity bonds.
What's the yield on these bonds? The yield of these annuity bonds is the discount rate, which is G the rate,
which is a rate of return on these contributions set to the long term growth and the rate of the economy.
The long term rate of growth in the economy, as currently forecast by the UK government, is CPI plus two point four percent.
That's the discount rate of the public sector pension schemes.
Now,
such a new annuity bonds have quite an attractive yield relative to the long dated inflation index bonds that the government issues were long dated.
Inflation indexed bonds have returns about two percent below CPI at the moment.
Now, if such annuity bonds that are issued to the teacher's pension scheme like were publicly tradable.
Funded defined benefit pension schemes alone would create enormous demand for them.
And therefore, pay as you go, public sector schemes such as the teachers pension scheme are in effect government bond funded schemes,
but with a much better yield of CPI plus two point four percent than the long dated,
indexed linked bonds, which some financial economists maintain should largely constitute the portfolios of privately funded, defined benefit pensions.
A yield of CPI plus two point four percent is not as high as expected long term return on equities,
which is now in the vicinity of CPI plus four percent. But unlike in the case of equities investment, there is no risk to the asset holder.
The employers and members who pay the contributions in exchange for the government issued annuities don't bear on the investment risk.
Well, should a pension scheme prefer to invest more cheaply in risky equities with the higher expected return or.
In the government annuity that has a rate of return pegged to the forecast growth of the economy.
Well, perhaps rather than expose themselves to the downside risks of equities,
I'm sure that many would leave with the chance to purchase liability matching assets with the government guaranteed return.
CPI plus two point four percent rather than index linked bonds of CPI minus two percent.
Well, issues of fairness might therefore be thought to arise on account of the fact that the government is issuing
the exclusive be selling annuity bonds at well below their market value to only some workers and employers,
namely those who qualify for membership in public sector pay as you go schemes.
So what grounds, for example, are there for the government to make these bonds available for purchase by the new K,
U, K or the new UK universities, the so-called Post 92 sector,
who enjoy membership in the teacher's pension scheme while refusing to sell such annuity bonds to the older universities and colleges,
which are members of USS? And why, for that matter?
Does the UK government make these annuity bonds available to Eton College, which is also a member of the teacher's pension scheme?
But not to any of the universities in the UK founded before nineteen ninety two.
Now, to overcome such invidious snice and unfairness. Why not make these annuity bonds available to all employers and workers in the private sector?
Here's a related question. I would now like to pose to those who call for private sector defined benefit pensions
to be funded out of a portfolio of long dated inflation indexes and government bonds.
What explains your preference for funding such pensions at the lower discount rate of index-linked government bonds
rather than the higher discount rate than annuity bonds that governments make available to public sector schemes?
Is it because the yield so you claim on long dated index-linked bonds as set by the free market?
Whereas the CPI plus two point four percent yield of annuity bonds is the product of an unfree market,
given restrictions on who can purchase them and the inability to trade them well.
But, of course, the yield on long dated, indexed linked bonds is not determined by a free market.
Given how outsized the player the government is in this market under quantitative easing.
Bond yields are as low as they are on account of the central banks injection of money into the economy
through quantitative easing involving the buying back of government bonds held by insurance companies,
pension funds, banks and other institutions. And moreover, quantitative easing is a public policy choice.
The purpose is to stimulate demand, but demand could be more effectively stimulated through the more widespread issuing and selling,
not just to public sector employees and workers,
but to workers more generally of the sort of annuity bonds that the government now sells to those in the public sector.
A widespread selling of the sorts of annuity bonds are there for the public sector would stimulate consumer demand on account of pensioners.
Having more money to spend in greater demand would also arise from firms having more
money to invest or otherwise spend on things other than pensions contributions, such as the salaries of their workers.
And it's ultimately a matter of choice on the part of the government. What sorts of bonds to issue and to whom?
Now, of course, doing what I've suggested, issuing these annuity bonds across the economy,
not just to the public sector, might have undesirable effects that would tell against doing so.
I mean, it might give rise to too much inflation or the crowding out of government borrowing from investment in infrastructure and the like.
But. It's still a matter of government policy choice and should be analysed along these lines.
The government can choose to issue CPI plus two point four percent annuities in greater volume and
make them more widely available to workers and employers is nothing magical about the current yield.
CPI minus two percent of index linked government bonds.
So what I want to do now. You step back.
And restate the case I've been developing for collective pensions in this lecture and the previous two.
Now, my last lecture, I showed how CDC converges on defined benefit.
I've now just shown how notionally funded pay as you go public sector defined benefit also converges on funded defined benefit.
So climbing the mountain from different sides. All of these approaches converge on a similar form of collective pensions provision,
which breaks open the silos of individual defined contribution pension pots and avoids the
exorbitant expense of funding that's pegged to long dated index-linked government bonds.
Now, whether it ultimately takes a form of CDC, a genuinely funded, defined benefit scheme or notionally funded pay as you go defined benefits scheme.
We've converged on a collective, multigenerational society wide form of pensions provision.
So what to do now is wrap up. By posing the following question.
Why should those of you who are young, able bodied and productive.
Pay for the pensions of those who are elderly, infirm and out of work?
Should you do so out of a duty to redistribute your known fortune to others who are known to be unfortunate?
In order to eliminate the unfairnesses of life. This is the answer, the question I just posed.
Then we'll have to rely on the capacity of the fortunate to identify with the fates of
badly off strangers and altruistically agree to open our wallets to these strangers. And if the fortunate will not agree,
then we'll need to find a Robin Hood who will rob from the rich against their wills to give to the poor or the state.
We'll have to do that. But I think that we can, for the most part, conceive of the case for pensions differently.
As a form of reciprocity involving cooperation between persons, which is to the antecedent mutual advantage of each in terms of their prospects,
we can conceive of the transfer of wealth, a pension schemes, not as a transfer between different people,
but rather as transfers within the possible future lives of each individual.
As transfers from one's more fortunate, possible future selves to one's less fortunate, possible future selves.
No, this case can be addressed to many of you in this virtual Zoome webinar,
who are university students who have recently reached the age of majority and are near the beginning of your adult lives.
Many of you are young, able bodied and productive.
But barring miraculous breakthroughs in medical technology, your discovery of a fountain of youth, you will not remain young and able bodied forever.
Some of you will tragically become seriously incapacitated during your working years as a result of illness or accident.
For a few, the illnesses or accidents you suffer will be so serious that you won't survive in old age.
But the great majority of you will make it into old age and reach a point when you're no longer willing or able to continue working.
But you don't know how long you're going to live in retirement, at least at the beginning of your working lives, nor at that early stage.
Do you know how well an investment that you might try to save up there in the next decades?
For your retirement, welfare, from the perspective of the beginning of your working lives,
is therefore rational for each of you to enter into living with others who also don't yet know their fates,
that if you turn out to be amongst the unfortunate whose pensions pots would not have yielded enough for your retirement
resources will be transferred to you from those who pet whose pensions parts would have overflowed in their retirement.
But this arrangement will work only if we all agree to bind ourselves in advance so that if we turn out to you in the fortunate,
we're not allowed to defect from the scheme and going and go it alone.
So by joining together as a collective in the manner famously depicted on the front pages of Hobbs's Leviathan.
Fatah will attend the risks that it will face as individuals, each with our own private pension pot.
Investment and longevity risk can be pooled to the insurance of a mutual association in a manner which is to the xanthi advantage of each.
It's rational for each of us to agree to share one other's fates by pooling risks to
cross both space and time on fair terms of social cooperation for mutual advantage.
Thank you all very much.