The Organisation for Economic Co-operation and Development has warned the pension freedoms granted to savers in the Budget could act as a disincentive to work and that “myopic” savers could run out of money.
In its Pensions Outlook 2014 report, published this week, the OECD says new rules on how people access their defined contribution savings increase individuals’ control but could be “detrimental to both retirement income adequacy and incentives to work”.
It says: “While this measure might increase pensioners’ control over their accumulated funds, it could be detrimental to both retirement income adequacy and incentives to work, due to individuals’ myopic behaviour and insufficient financial literacy.”
It adds the success of the reforms hinges on savers’ abilities to budget their savings to ensure they do not run out of money in retirement. The report says: “The overall outcome depends on how successful individuals are in assessing their needs over their remaining life expectancy. In any case, such withdrawals bear risk that retirees outlive their savings, especially those with low wealth.”
To give savers flexibility over their pension pots and the security of a guaranteed income, the OECD suggests using deferred life annuities.
It says while pensioners “need flexibility and liquidity” in early retirement, it “recommends to combine programmed withdrawals during the first years in retirement with a deferred life annuity that starts paying later in retirement, for example at age 80”.
It also notes the “framing” challenges faced by annuity providers, where savers misunderstand the products and see them not as longevity insurance but investments.
The OECD also says providers and defined benefit pension schemes could face “serious problems” if mortality and life expectancy continue to improve.
Despite widespread reforms following the financial crisis – including the introduction of auto-enrolment in the UK – the OECD says it will take “many years” for the changes to take effect and that “further measures” will be needed.
Principal economist and head of the private pension unit Pablo Antolin says: “The compounding pressure on Governments’ finances and increased longevity is undermining the sustainability of pension systems across the OECD countries. Although many members have begun in-depth reforms, this is still work in progress. It will take many years to embed the changes and further measure will be required to strengthen private pensions, increase coverage and contributions and reinstate public trust.”