Horizon scanning – DC (in)adequacy

In the fourth installment of our new blog series, Richard Butcher examines the headwinds facing future generations of DC savers.

Questions for trustees/IGCs to ask:

  • Have we factored in all the risks in our adequacy assessments?
  • How are we helping our members to understand the adequacy challenge?


In my blog Up periscope – looking to the horizon I explained why it’s important to look ahead to anticipate what may be coming and try to work out its impact. If we can work out the impact, we can pre-plan how to create opportunity or to mitigate risk.

There are three horizons to look to. The near horizon, which is stuff we’re aware and have a pretty good understanding of; the far horizon, which is stuff we’re aware of but don’t yet fully understand; and over the horizon, which is stuff we’re not aware of but still need to be prepared for. 

This blog considers a near horizon item – DC adequacy.

On the whole, people aren’t saving enough for retirement. Even with the advent of AE, 6% of workers are at risk of not achieving the Minimum Income Standard, or MIS – circa £10k per annum –  and slightly more than 50% are at risk of not achieving the Target Replacement Rate, or TRR – which is 67% for median earners (source: PLSA) – and this analysis probably overstates the chances of success as it doesn’t allow for the uneven distribution of DB. Nor does it allow for “persistency” which is at 72% (source: PPI) – persistency being different to the inverse of opting out as it (a) covers more than the AE population and (b) is a longer-term measure, i.e. a population of 28% that isn’t engaging with pension saving.

The problem is, to some extent, systemic. AE was only ever designed to mitigate some of the risk of pensioner poverty. The 8% contribution rate aimed to provide 45% of pre-retirement income for the median earner, with the balancing 22% coming from private saving.

In addition to not saving enough there are several other negative factors in the new model of wealth accumulation:

  • Declining homeownership - The incidence of homeownership has roughly halved for those aged 30 in 2020 compared to those aged 30 in 1990. This creates two challenges: (a) fewer people generating property equity that can be used to offset inadequate pension saving, and (b) more people paying rent through retirement, or mortgages into retirement, and so needing a higher level of income (the MIS, TRR, and the PLSA’s Retirement Living Standard assume no housing costs).
  • The tilting of the inheritance scale - While children of poor parents are unlikely to inherit a meaningful amount and the children of wealthy parents will continue to inherit a significant amount, those in-between are likely to see their inheritance reduced compared to previous generations. This is because of the semi-fixed cost of long-term care. This is offset to some extent by the wider distribution of housing wealth in the parents’ generation (due to the right-to-buy policy of the 1980s) and the persistently high net savings rates of those already retired.
  • Educational debt - This is a new problem for younger savers (compared to previous generations). The theory that educational (university) debt is more than offset by the “graduate premium” (the ability of graduates to earn more over their working lives) is only true in respect of a proportion of the graduate population. The key determining factors being the degree taken and where it is taken. A graduate with a quality degree from a quality university is more likely to earn a premium than a graduate with a less saleable degree from a less prestigious university. In either case, the debt is a brake on the graduate’s ability to save. In the case of the latter, it’s a handbrake.
  • Longevity - As we live longer, DC savings must be spread more thinly. This is, however, offset to some extent by improved health (although this isn’t uniformly distributed across the population) and the limited ability to work longer, and so (a) accrue more savings and (b) defer drawing on existing savings.
  • Long-term healthcare costs - Successive governments have failed to legislate for the cost of long-term healthcare, despite several commissions and working groups being set up to produce policy recommendations. Consequently, pensions will become the de facto solution. If long-term healthcare must be paid for, absent any legislated mechanism it will have to be from the income available.
  • Financial fragility - Financial resilience (or the lack thereof) isn’t a new problem, but it is a persistent one. The average UK household’s ability to withstand financial shock is low. In low income households, catastrophically so. While it’s been widely reported that Covid lockdown has increased household savings levels, this isn’t evenly distributed. The consequence of financial fragility in the context of pension savings is an increased likelihood of savings in-persistency.

There are negative factors for employers and the government as well:

  • Corporates - There are always negative pressures on corporate spending ability, but currently both Brexit and Covid are adding to these. While these pressures aren’t uniformly distributed (some firms are doing very well at the moment despite these factors) their existence acts as a barrier to a uniformly imposed increase in pension contributions.
  • Government - Two factors are at play that reduces the government’s ability to fund more: (a) the high level of national debt and (b) anti–austerity measures that will lead them to prioritise spending on growth generation.

There are, though, some positive factors:

  • Early evidence suggests that former students who have had to manage their educational debt are better able to manage their wider finances – in other words, they’re more likely to make informed decisions about joining, staying in, and contributing to, a pension scheme.
  • There is the possibility of a new savings culture emerging. Firstly, AE broke the mould in behavioural finance and its implications could be wider than just pensions. Secondly, Covid lockdown has left many people with more cash in the bank (as well as many with less or none). This both breaks a behavioural barrier but also gives them a sense of what financial resilience feels like – it may be addictive.

Summary table

The impact of DC insufficiency (assuming no mitigation)

Short term

Accrues as an invisible problem. Retirees will be protected by DB legacy and housing wealth.


An increasing number of workers discover they can’t afford to retire or retire in the lifestyle to which they aspire. This will do damage to the brand of pension saving.


More workers working much later into life – with the knock-on impact on workforces (job squatting and age-related risk). For those unable to work later, more pensioners in poverty.


Adequacy risk increases. Reputational risk increases.


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