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UK pension scheme deficits increase by further £50bn as inflation stays at record low


The combined deficit of the over 6,000 pension schemes tracked by the Pension Protection Fund (PPF) increased by almost £50 billion during March 2015, as UK inflation remained at a record low, according to the latest figures.

According to the monthly PPF 7800 Index, 4,995 of the 6,057 defined benefit (DB) pension schemes potentially eligible for entry to the PPF were in deficit at the end of March 2015, while the aggregate deficit across all schemes had increased from an estimated £248.7bn to £292.6bn over the month (8-page / 324KB PDF).

The Consumer Prices Inflation (CPI) rate was 0% over the year ending March 2015, according to the latest figures from the Office of National Statistics (ONS). Although inflation rates do not themselves affect pension deficits, they influence monetary policy decisions on interest rates and quantitative easing (QE) taken by the Bank of England, which in turn affect gilt yields and scheme valuations.

The PPF pays compensation to members of DB schemes if their employers go insolvent or are otherwise unable to pay promised benefits. The figures in the monthly PPF 7800 Index are based on eligible schemes' section 179 liabilities, which broadly represent the premium that the scheme would have to pay to an insurance company to cover a payout that matches the level of compensation its members are entitled to receive from the PPF.

DB schemes promise a set level of pension once an employee reaches retirement age, no matter what happens to the stock market or the value of the pension investment. Many of these schemes switched from equity investments to investments in more secure gilts, or government bonds, and corporate bonds following the 2008 financial crisis as these investments tend to be more secure. However, this means that DB pension fund assets are now much more sensitive to the impact of monetary policy decisions.

The Bank of England's QE programme and long-term low interest rates since the financial crisis have effectively pushed up the price of bonds meaning that the 'yield', or return, on those bonds has fallen as a percentage of the price. Lower gilt yields and long-term interest rates also affect a formula known as the 'discount rate', which is used by the pension scheme actuary to calculate the scheme's liabilities during its regular valuations.

The effect has been particularly dramatic over the past 12 months, according to the latest PPF 7800 Index. According to the figures, the cumulative deficit of participating schemes at the end of March 2014 was just £39.3bn, compared to the current £292.6bn. Similarly, the funding ratio of schemes decreased from 96.7% to 81.4% over the same period; again falling further from the 83.6% recorded at the end of February 2015. The funding ratio refers to assets held by the scheme as a percentage of section 179 liabilities.

Pensions expert Simon Tyler of Pinsent Masons, the law firm behind Out-Law.com, said previously that while QE continued and bond yields remained at record lows, the effect of the 'discount rate' would be to create an appearance of a deficit which scheme sponsoring employers would be legally obliged to fill.

"However successful the investment strategy DB schemes may have been pursuing, the level of assets they need just keeps going up," he said.

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