Increased government borrowing, confirmed in today’s ‘mini’ budget, could have a positive impact on DB schemes according to consultants LCP.
This is likely to drive up long-term interest rates and reduce deficits in this schemes, according according to LCP partner, Jon Forsyth.
He points out that in the last week, the interest rate on 20 year UK gilts stood at around 3.5 per cent and had risen to just over 3.8 per cent before the new chancellor Kwasi Kwarteng stood up to give his first fiscal statement.
Market reaction to the statement has led to a further increase with rates now at around 4.0 per cent. Coming on top of earlier rises in long-term interest rates these increases will reinforce the trend of more schemes being in surplus and more schemes being in a position to consider buying out some or all of their liabilities.
Scheme funding is also affected by expected future inflation over the long-term which has risen slightly in recent weeks. However, where pension increases are not fully protected against inflation because of caps, schemes can sometimes benefit from higher inflation if they are heavily invested in inflation-linked assets such as index-linked gilts. The exact impact will vary from scheme to scheme and will also depend on their hedging strategy.
The chancellor also reversed a planned increase in corporation tax rates. This means that companies will get less tax relief on the contributions they make into pension schemes than expected, and this could affect the timing of contributions into DB pensions.
Forsyth says: “The vast majority of DB schemes will find themselves in a better funding position this year than last, and today’s announcements are likely to reinforce that trend.
“If long-term interest rates continue to rise, deficits will tend to fall, and for some schemes this could bring forward the potential to buy out or buy in some of their liabilities.
“The impact of other Budget measures such as the scrapping of the Corporation Tax increase will have a less clear cut impact, as firms will get less relief than expected on pension contributions. But overall today’s statement is likely to lead to an improvement in DB scheme funding”.
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