The Chancellor is going to set up pension mega-funds to stimulate economic growth – this is how it would work

A government plan to use people’s pension savings to boost economic growth has broad public support, new research shows.

In her Mansion House speech tonight, Chancellor Rachel Reeves will announce the creation of pension mega-funds, forcing mergers of smaller local authorities and private employment schemes to unlock £80 billion of new investment.

Around 57 percent of people want their pension to include a higher percentage of shares in UK companies – although 42 percent said this was on the condition that it would not impact investment returns.

Meanwhile, 54 percent want their pensions to be invested more in private assets such as housing developments, infrastructure projects and early-stage growth companies, Abrdn’s research shows.

A survey of 3,000 people, weighted to be nationally representative, found that 14 percent did not want this and 32 percent were unsure.

The Chancellor’s plan to use pensions to boost growth is explained below, and it builds on predecessor Jeremy Hunt’s initiative in last year’s Mansion House speech to free up extra pension money to support the economy.

Hunt claimed that his series of plans – including pushing top pension companies to allocate 5 per cent of their ‘standard’ workplace funds to unlisted shares – would leave the average saver £1,000 a year better off if he retires.

What does the Chancellor’s pension review entail?

Rachel Reeves plans to create pension mega-funds by consolidating defined contribution schemes below a certain size and pooling assets from the 86 separate local pension fund authorities.

She says this will unlock £80 billion of investment in exciting new businesses, infrastructure and local projects, while boosting pension savings and boosting economic growth to make people better off.

The Treasury says the mega funds will mirror the setup in Australia and Canada, where pension funds use their size to invest in assets with higher growth potential.

“Canadian pension plans invest about four times more in infrastructure, while Australian pension plans invest about three times more in infrastructure and ten times more in private equity, such as corporations, compared to defined contribution plans in Britain,” the Treasury said.

It notes that there are currently around 60 different defined contribution multi-employer pension schemes and wants to set a minimum size for these schemes to ensure they deliver on their investment potential.

The government will hold a consultation on the reforms, which will then be introduced in a new pension schemes law next year.

Risks will all be taken with pension savers’ money

“My overarching concern is that the needs of the saver, whose money is ultimately at stake, will be forgotten,” said Tom Selby, director of public policy at AJ Bell.

‘There is a reason that a professional organization has a trustee who represents the interests of its members. Part of this is investing their money to maximize returns and achieve the best possible retirement results.’

‘Conflating a government objective of boosting investment in Britain with people’s pension outcomes poses a danger because the risks are all taken with members’ money.’

Selby says that pension fund participants must be made clear what happens to their money.

He points out that managers of standard defined contribution funds and defined benefit plans should make investment decisions ‘primarily’ with the aim of providing participants with the highest possible retirement income.

‘Good results for members are therefore at the heart of the British pension system. As we are likely to be talking about pensions where the member is either not involved in the case of defined contribution defaults, or has no say in investment decisions in the case of defined benefit payments, it is crucial that this remains the case.”

Selby adds: ‘When things go well, everyone can celebrate. But it is clearly possible that things will go the other way, so some caution must be taken in this push to use other people’s money to stimulate economic growth.”

Mega funds will need a pipeline of viable investments

The success of merging local pension funds so they are large enough to access high-yield investments will depend heavily on the availability of new infrastructure projects to invest in, said Jon Greer, head of pension policy at Quilter.

‘It’s a chicken-and-egg dilemma. Large funds need substantial, reliable projects to generate returns, but the market may struggle to provide enough of these opportunities, especially in the infrastructure sector,” he says.

“If too much money chases too few viable investments, the effectiveness of this consolidation could be diluted, potentially forcing funds into riskier or less impactful projects.

“The government will need to actively work to develop a pipeline of investment opportunities that match the scale and risk requirements of the mega funds.”

Greer adds that better supervision and regulation are welcome, but the extra layers of control could cause mega funds to operate sluggishly and suffer compliance costs that ultimately impact returns.

‘It is also notable that Reeves has stopped short of requiring pension funds to invest a fixed proportion of their assets in UK equities or infrastructure projects, instead encouraging specific targets for the pool’s investments in the local economy.

‘While there are benefits to encouraging investment in Britain, such mandates could limit the ability of pension systems to make dynamic, return-oriented choices.’

Greer continued: ‘Reeves’ plan to support the UK economy is well intentioned, but it is crucial to balance this with the autonomy arrangements needed to protect savers’ financial futures.’