Close To £2 Billion Have Been Cashed Out Since The New Pension Freedoms. So What?
A staggering sum indeed, but what lies behind this figure?
Many comments have been made on the ballooning sum that keeps growing since the new pensions freedoms have been enacted by the government three months ago. However, these comments have limited themselves to the scale of the withdrawals rather than the effects of this (God forbid) run on pension pots. Furthermore, it would be useful to note that this number is at best incomplete as pension funds are able to opt out of giving the government information about how people are drawing their pensions.
It has been estimated that £1.3 billion was put in to buying nearly 22,000 regular income products, with over 50 percent of that figure going into income drawdown products rather than annuities. The average annuity was purchased with £55,750, while the average fund invested in a flexible pension was £69,900. The overall number of people buying annuities is still marginally higher than the number investing in flexible arrangements.
What does this mean then?
Aside from the fact that it allows people to dispose of their pensions pots as they wish, it also allows them to invest in income generating assets or products that match their needs more closely. That in itself is a good thing. However, the real advantage from a macroeconomic point of view is that this new rule turned illiquid assets (i.e.: pensions pots) into liquid ones overnight. What the conservatives had in mind with this new regulation was to see stimulus driven by the British workforce itself rather than by institutions such as the Bank of England. A clever move.
Still, as astute as this policy may be, it is not devoid of risk; especially in the longer term. As pension pots used to be locked, they were not subject to any fluctuations and were hence easier to manage for pension funds. These essentially provided collateral to pension funds in case it was needed. The new pension freedoms have changed the systems and pension pots have all the sudden become not so secure and stable, which in turn makes an unreliable collateral, contrarilto to what they were in the past. But the new freedoms not only impact pension funds: depositors too are at risk. As a rule, it is not a bad idea to diversify your investments but these are inevitably more risky in terms of return than pension pots were under the previous regulation. This therefore exposes depositors in new ways, with potentially serious consequences on the pensions of British workers if things go wrong with their investments. These freedoms thus put both pension funds and depositors in jeopardy.
Yet, it is to be expected that depositors will not make misguided investments and that pension funds will work out ways to compensate for this newfound collateral instability. There is therefore no reason to panic but good sense is required on part of both pension funds and depositors. The advice would hence be the following: use your pension freedoms wisely.