Historically in the UK, private pensions have been provided and paid for by employers. The traditional defined benefit scheme was typically funded on a ratio of around one-third employee contribution to two-thirds employer contribution (and if you take into account the deficit repair contributions now being made by employers, that ratio is even more heavily skewed towards the latter).
This relationship appeared to continue as defined contribution schemes started to replace DB ones. A similar trend can be seen internationally. In Italy, Japan and Denmark, employers typically contribute more than employees do. It is the same story in other large DC markets, including Australia, where the compulsory superannuation contribution is paid by the employer, as well as the US.
But the relationship is about to be reversed when the minimum contribution level for auto-enrolment rises.
Although currently the minimum requires a 2 per cent contribution, at least 1 per cent of which must come from the employer, this will increase from April to 5 per cent with at least 2 per cent from the employer, and again in April 2019 to 8 per cent with at least 3 per cent from the employer.
With the majority of employers only paying the minimum level of contributions, this will mean many employees’ future contributions being higher than their employers’.
Now, if you are an economist (which sometimes I admit to), this should not matter. After all, pension contributions can be seen as part of the overall remuneration package, and even the Pensions Commission at the time of recommending auto-enrolment recognised employers paying higher pension contributions than before would, in enough time, adjust pay to compensate (although some, such as those paying the national living wage, for example, might not be able to make such an adjustment). So employer and employee contributions all come from the same pot.
But the balance between employer and employee contributions can have an impact as to how much is paid into pensions in other ways.
Research tells us that, where employers make high contributions, individuals are more willing to pay in contributions of their own, especially if the employer “matches” contributions so that the more the employee pays in, the more they get.
And, importantly, the balance of employer and employee contributions changes the dynamics around opt-out from pensions. Where an employer contribution is high, someone opting-out is giving up a valuable benefit and getting back just a relative small amount through the returned employee contribution.
If, however, the employee will get back a larger amount in returned contributions and give up a smaller benefit from the employer, then they have more incentive to stop saving and take the money now.
So not only is the total contribution to pensions important, it also matters who pays it. Higher employer contributions may well lead more from employees.
Chris Curry is director of the Pensions Policy Institute