Pension deficits have
ballooned to the £100 billion landmark but the knock-on effects of the
austerity measures announced in the Budget are likely to add to the woes of
companies sponsoring final salary schemes over the next few years. However, in
the long-term those measures will eventually start to erode the final salary
debts of companies if the economy improves, according to Aon Consulting, the
leading employee benefits and risk management firm. The aggregate pension fund
deficit shown in company accounts for the 200 largest UK privately sponsored
pension schemes increased from £88 billion in May to £100 billion at the end of
June.

In the short term, the fiscal measures introduced in the
Emergency Budget are likely to increase final salary pension scheme
deficits. The reduced issuance of government securities (gilts) relative
to previous expectations, combined with slower economic growth, are both likely
to reduce the yields available on gilts and so increase the value placed on
final salary scheme liabilities.  A 0.5 percent fall in gilt yields would
increase the value of the Aon200 final salary scheme liabilities by circa £43bn
to £143bn.

Over the longer term, however, as the tough economic
measures take effect, financial conditions will change and those changes are
likely to be more favourable to final salary deficit.  It is likely that
the strengthening of the economy will lead to increased yields available on
gilts and, thus, a reduction in the value placed on final salary liabilities. 
An increase in gilt yields to 1.0 percent above current levels would reduce the
Aon200 deficit to a mere £25bn from its current level of £100bn.

Commenting on the latest figures, Marcus Hurd, head of
corporate solutions at Aon Consulting, said: “The government’s mantra is that
‘we’re all in this together,’ and final salary pension funds are going to share
the nation’s pain.  A consequence of the tough financial measures
introduced in the UK emergency budget is that deficits could increase in the
short-term. This will be a bitter pill to swallow to companies who are
already piling in billions of pounds to plug these deficits.

“Over the longer term, however, as the economy recovers,
final salary pension funds should be one of the key beneficiaries. The
immense importance of gilt yields to pension funds is such that a small change
can have a dramatic effect. The economic recovery could be the saviour of
the UK
private sector pensions debt. “For those companies that can afford to take a
long-term view of pensions, the UK emergency budget is short term pain followed
by long term reward. The short term pain, however, may be too much to bear
for some companies in difficult times.”

Aon200 Index – The total FRS17/IAS19 surplus (or deficit)
for the UK’s 200 largest UK privately-sponsored pension schemes

5 July 2010