My Lords, the PPF provides real support to some 295,000 pension scheme members who have entered it, including through the £1.1 billion paid out in compensation each year. It provides security to those in current DB schemes who may need to call on it in future. Add to those figures the Financial Assistance Scheme, which covers a further 150,000 members and, following the Pensions Act 2004, is administered by but not funded through the PPF, and we are providing a blanket of considerable security to heading for half a million people.
It is very important to remember that, before the 2004 Act, members could lose all or much of their pension savings when employers became insolvent or simply walked away from their liabilities. When the Labour Government created the PPF, there were many doomsayers who predicted that it would not be sustainable. In fact, the PPF has defied those doubters: it is financially resilient, has been well run, and has weathered the various economic storms that have occurred over the past 15 years.
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However, the financial resilience of the PPF over the very long term still needs careful consideration. I probably take more comfort from the cosiness of prudence than my noble friend does, but the past few years have seen a significant improvement in overall scheme funding through increased employer contributions, rising interest rates and, more recently, rising gilt yields. I acknowledge that, but there is always the risk of the economic environment worsening and future large claims on the PPF. There will be a decline in the number of PPF levy payers resulting from schemes transferring into the PPF, and the number of schemes likely to buy out with an insurance company. Schemes underfunding is one of the biggest risks that the PPF faces, and there are still scenarios in which scheme funding could deteriorate. We have seen rapid movements in the level of scheme funding. What we have witnessed over the past 15 years confirms that.
The funding regime for the remaining open schemes is also important. Many of the larger such DB schemes have considerable deficits on a Section 179 basis—that is, the basis for funding to provide a PPF level of benefits. The Purple Book shows that open schemes are around 20% worse funded than closed schemes, on a Section 179 PPF benefits level basis. Such schemes presenting to the PPF could have a significant impact
on the PPF’s funding, if they made a claim. There is also a long tail of small schemes which, together with stress schemes, collectively constitute, as I understand it, over one-third of the remaining 5,100 DB schemes. The estimates suggest that the annual capacity of the buy-out market is £50 billion to £100 billion, but it is likely to be the stronger schemes that buy out, with the less financially resilient schemes left in the PPF universe.
I mention all those things because, although the PPF is resilient when looked at today, we know that the risks that it has to be embrace and deal with can move against it. What work is being done to assess the impact and extent of a future decline in the number of levy players and the implications for the annual levy and the financial resilience of the PPF? In the light of the PPF’s current improved resilience, I understand that the DWP and the PPF are jointly considering the potential for more flexibility in setting the levy. Is the Minister able to report on when we are likely to know the outcome of those deliberations?
Improved PPF financial resilience, against a background of current high inflation levels, is bound to raise questions about current compensation levels paid to scheme members who entered the PPF. Looked at over the long term, an important part of maintaining the financial resilience of the PPF and the fairness towards levy payers has been the level at which PPF compensation payments are set. As my noble friend spelled out, current compensation payments are inflation indexed only on pension benefits accrued since 1997, not on benefits accrued before then, and the index is capped at 2.5%.
Understandably my noble friend is concerned that, in the face of high inflation and its impact on members of the PPF, the annual levy for 2023 is being reduced to 16% of the levy ceiling, given that there are some strong arguments for saying that the level of compensation payments should be improved. Again, I go back to my natural affection for prudence. Changing the PPF compensation levels, specifically to provide improved inflation indexing, would have a material financial impact on the PPF and wider implications for DB schemes, and, by association, the funding of the Financial Assistance Scheme. Changes to indexing would need consideration of the level of increase on the PPF’s future liabilities and the impact on the number and size of claims that the PPF would receive in the future, and it would almost certainly raise arguments about the cost of backdating any index payments.
We would also have to deal with schemes that had wound up outside the PPF through buyout at a level of benefit above current PPF benefits but which, if compensation payments are increased, would have been better off if they had transferred into the PPF. More schemes will become underfunded on a Section 179 basis. In looking at ways in which compensation could be improved, particularly for benefits accrued prior to 1997—I am hesitating on my memory—there are some quite serious issues to reflect on.
I am aware that the Work and Pensions Committee is looking at the system and the level of PPF compensation. Without treading on its toes, I ask the Minister whether there are any plans to increase the transparency of reporting on the department’s
consideration of the annual levy raised, and about the scope for increasing the level of compensation to members in a high-inflation environment, and the need to ensure financial resilience of the PPF in the face of other risks evolving over time.
The other issue is that the PPF will be entering its own maturing phase, which will require it to have a greater focus on maintaining financial resilience. Reading the various papers that we had before us, I did wonder whether, in those circumstances, the PPF is right to decide to build reserves at a significantly slower pace than it had been building them. Certainly, in the DB scheme world, the regulator often encourages DB schemes to get assets in while the covenant is strong, and not wait until it is weak and seek the money. I wondered whether it is such a good idea to slow down the building at pace of reserves.
Finally, is it possible to update the Committee on the DWP’s view on the maturing of the PPF, which is a kind of shift in its position? I appreciate that it may not be possible to make a verbal response to that, but a written response would be helpful.