$500b Pension Deficit Is Britain’s Biggest Liability

The UK has run up a national pension deficit of more than £400 billion ($518 billion) over the past decade, becoming the biggest liability to the economy.

Even worse, the Bank of England's decision last week to cut interest rates to record lows and begin a bond buying program of quantitative easing means the deficit is only going to get bigger, Business Insider reported.

HSBC's head of European credit strategy Jamie Stuttard warned in a recent note that Governor Mark Carney's monetary policy move means: "The pension issue is essentially kicked down the road for somebody else to sort out."

This is not an abstract problem. Although it may be hard to get excited about something that won't affect you for decades, the solutions to this problem have very real consequences for the country and its people.

Here are just some ways the pension problem might be fixed:

1. Retirees take a "haircut"—essentially getting a pension of less than they were promised;

2. The government and corporations borrow more to cover the pension shortfall, pushing up national debt levels;

3. Companies try and buy-out members of these schemes with so-called "plasma TV deals" that ultimately leave retirees worse off;

4. Interest rates finally rise, making investment return target more manageable. But after the first rate cut in 8 years to a new record low, that doesn't look likely;

5. Or the schemes simply collapse in on themselves as we've seen with BHS, which sunk under the weight of its own deficit.

Zombie Schemes

The collapse of British Home Stores' defined benefit scheme has been the most notable example of this type of scheme blowing up but former Pensions Minister Steve Webb says there are "many hundreds of ‘zombie’ schemes" in the UK that have "no realistic chance of the pensions promises being met."

The demise of BHS, the high-street shop, has put 164 shops and almost 11,000 jobs at risk.

The deficit this week hit a record £408 billion, pushed higher by collapsing yields on UK gilts (government debt). 84.4% of UK pension schemes are now in deficit, according to the Financial Times.

What has gone wrong with pension schemes in the last decade? In short, the Bank of England has thrown a major spanner in the works.

Tom Selby, a senior analyst at stockbroker AJ Bell, says: "Savers have unfortunately been caught in the crossfire of the Central Bank’s loose monetary policy over the past decade or so."

The Bank of England's recently announced quantitative easing program also doesn't help. Banks, pension funds, and insurers are unwilling to sell their long-term debt so the BoE has been forced to bid prices higher, hitting falling yields further. They, in fact, went negative at one point.

The Bank of England's slashing of interest rates over the last decade also hasn't helped pensions, as it is hard to find investment products that offer decent returns in a low-interest rate environment.

No Money

The biggest problem is with defined benefit schemes, which are pension schemes where members are promised a certain level of payout once they retire—£200 a week, say.

Helen Forrest Hall, defined-benefit policy lead at the Pensions and Lifetime Savings Association, told Bloomberg this week: "We recognize the bank’s concern and the need to protect the economy. But the challenge we have is that the QE programs do have an impact on pension funds’ liabilities."

A pension scheme forecasts how much it expects to make based on gilts. But if gilts are falling, their expected returns falling, meaning they need to invest more money. That is money they don't have, meaning deficits rise.

Mark Carney is digging the UK pensions deeper into a hole in the hope of staving off an economic crash in the short term. But it may not even have an effect. The Bank of England could be fanning the flames of a big economic problem for no reason.