Port Talbot is a message to the Bank of England

In my piece on Port Talbot yesterday, I mentioned the whopping pension deficit as part of the problem. It seems to be a very big part of the problem: the current shortfall looks to be around £485m, but, says the Times, the rising life expectancy of the scheme’s 100,000-odd members means that it is forecast to end up at over £2bn. To close that “will require annual contributions of about £200m a year for 15 years.” Too much for any buyer to contemplate taking on.

Tata hasn’t been ignoring this problem: it has put £90m into the scheme over the last three years. However, the deficit has just kept growing. Why? This brings us to much the same thing that most major financial problems now seem to bring us to: super-low interest rates.

I’ve written about this before here and here. But the key point is that pension trustees tend to use the rates on government bonds as proxies for the returns they will make on the assets they hold in their funds (bonds are thought to be the only matching assets for pension liabilities). If rates are where they are now – 0.5% – the present value of the assets is going to be significantly lower than when they were, say, 5%. The lower rates go, the higher pension deficits get.

So, Tata isn’t alone in its pension problems: the latest reports on the matter suggest that the UK’s largest 350 companies have a combined deficit of £64bn. And it isn’t just big companies that are being dragged down by this: watch my interview with Gervais Williams this week, and you will hear him talking about a company that got a great deal on an acquisition. Its target – the main business of which was profit making – had ended up in administration as a direct result of being unable to fund its pension scheme.

The authorities are in a tricky situation here. They need the pension funds to keep thinking that bonds are the only game in town for them (someone has to be prepared to keep buying the things at these low yields). But they clearly don’t want that to mean the total collapse of the UK’s industrial base. So what do they do? The obvious answer is to put up interest rates. Port Talbot is just one more message from corporate Britain to the Bank of England: low rates aren’t working anymore.

  • Big V

    Indeed, it is a good point. This crazy low interest rate policy combined with money printing has completely distorted the market.

    Not to mention it has made housing unaffordable for an entire generation. Is it any wonder ‘professionals’ are leaving parenthood later and later?

  • Andrew Benn

    I agree with Merryn that our low interest rate policy is submerging the pension funds and hobbling our industries. But our interest rates are not ever going to be raised – not for a long while – not until we’ve paid down our government debt or (more likely) until our government defaults on its debts.

    Governments almost never repay their debts – they just roll them over. When a Gilt is due for redemption they just borrow some more money to pay it off. The debt never goes away. Our government is holding rates at 0.5% (not the BofE) for as long as it can in order to roll-over it’s more expensive debt with newer, cheaper debt.

    A silly example of what’s going on week in, week out. Radio 4 – Today programme – 2 years ago – announcement from the Treasury. They paid off some War Bonds. FROM THE FIRST WORLD WAR!!! Those War Bonds paid 4% per annum. Put in £100 in 1914 and get £400 plus your money back. Does this make any sense to anyone other than the Treasury? Of course, they didn’t ACTUALLY pay down the debt. They just borrowed some more money – this time at 0.5% to pay for it.

    Low interest rates are not going away for a long time.

  • DemiGod

    Many pension funds will default in the next few years. This will cause a flight away from Gilts as they offer little, no or negative return. Money will move to supposedly more ‘risky’, equities for return. BOE will be forced to move rates up, too late, and the government will collapse with a vote of no confidence. Pension funds will default with rates this low, Government will default with higher rates – either way blood is on the streets. Of course this means higher taxes before Government gives up its stranglehold of control, they are desperate already, but when their jobs are on the line they will really pile on the pressure to save their own skin.

  • John Deam

    Everyone has apparently forgotten how the destructive burden upon UK Private Sector pension schemes (and, thereby, the associated companies) began. In one of his first decisions as chancellor, Gordon Brown scrapped tax relief on pension dividends. Official figures reportedly reveal that the tax grab has saved the Treasury – and cost workers – more than £118billion since 1997. The move has been blamed for wrecking once thriving Private Sector industries and fuelling the closure of many Private Sector final salary schemes.

    So there’s another influence to add to Merryn’s list. Note how often the word ‘Government’ is associated with those influences.