A review of the risks, costs and benefits of defined contribution and defined benefit pension schemes
| Published date | 25 July 2008 |
| Date | 25 July 2008 |
| DOI | https://doi.org/10.1108/13581980810888840 |
| Pages | 230-238 |
| Author | Robert Watson |
| Subject Matter | Accounting & finance |
A review of the risks, costs and
beneïŹts of deïŹned contribution
and deïŹned beneïŹt
pension schemes
Robert Watson
Durham Business School, University of Durham, Durham, UK
Abstract
Purpose â The purpose of this paper is to evaluate the relative risks and beneïŹts associated with
deïŹned contribution (DC) and deïŹned beneïŹt (DB) pension schemes. New regulatory and governance
requirements and demographic changes have all signiïŹcantly raised the costs and reduced the expected
beneïŹts to employers of operating DB schemes. In response, many employers have either closed down
their DB schemes, closed the scheme to new members and/or to capped any further accruing of beneïŹts
for existing members. This decline in DB schemes and their replacement by less generous DC schemes,
has been overwhelmingly seen by employees, the general public and Government as an unwelcome
development that shifts signiïŹcant pension risks from the employer onto the employee.
Design/methodology/approach â The paper evaluates claims that DB schemes are less risky than
DC schemes and, whether their passing ought to be such a cause of concern.
Findings â The paper ïŹnds that DC schemes are not inherently riskier than DB schemes. Indeed, it is
argued that the low operational, governance and regulatory costs and ïŹexibility of DC schemes
provide employers and employees with the most cost-effective means of saving for a pension. In
contrast, despite the appearance that the employer rather than the employee is the primary risk bearer
in respect of DB schemes, it is shown that this is largely a fallacy. Such an arrangement merely
substitutes an employerâs covenant for some portion of an independent (of the employer) investment
portfolio. This reliance upon an employerâs promises to continue to support and fund the pension
scheme imposes a raft of additional ïŹrm-speciïŹc (i.e. non-diversiïŹable) risks and regulatory and
governance costs upon the members of both DB and DC schemes.
Originality/value â The paper provides a topical and useful review of the risks, costs and beneïŹts of
DC and DB pension schemes in the UK.
Keywords Pensions, Pensionfunds, Stakeholders, Risk assessment, United Kingdom
Paper type Research paper
Introduction
This paper evaluates the relative risks and beneïŹts associated with deïŹned contribution
(DC) and deïŹned beneïŹt (DB) pension schemes. As Hudson (2008) shows, over the recent
past, new regulatory and governance requirements and demographic changes have all
signiïŹcantly raised the costs and reduced the expected beneïŹts to employers of
operating DB schemes. The response of many employers to these developments has
been to either close down their DB schemes, close the scheme to new members and/or to
cap any further accruing of beneïŹts for existing members. This decline in DB schemes,
with less than one-third of schemes in 2007 still open to new members, and their
replacement by less generous DC schemes, has been overwhelmingly seen by
employees, the general public and government as an unwelcome development that shifts
signiïŹcant pension risks from the employer onto the employee.
The current issue and full text archive of this journal is available at
www.emeraldinsight.com/1358-1988.htm
JFRC
16,3
230
Journal of Financial Regulation and
Compliance
Vol. 16 No. 3, 2008
pp. 230-238
qEmerald Group Publishing Limited
1358-1988
DOI 10.1108/13581980810888840
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