January 17, 2012 • 3:20 pm

“The EU is planning to force companies to increase their pensions pools through new policy that will cost, according to the bank JPMorgan Asset Management, the UK’s economy an astonishing and extraordinary £600 billion.”

Abhijit Pandya, The Daily Mail, 15 January 2012

The claim follows a report by JP Morgan Asset Management, which was produced in response to an EU Call for Advice on whether Solvency II rules designed for insurance should also affect pensions.

Solvency II was originally a set of rules designed to deal with insurance, and to guarantee that insurance firms remained solvent. The EU has proposed that these rules should apply to pension funds.

JP Morgan’s report argues that these same rules are not designed for pension funds, and their implementation would result in a significant shortfall that would have to be made up by pension schemes and companies.

Analysis

The £600 billion figure can be traced back to JP Morgan’s response to the EU’s call for advice, in which the company makes estimates of the potential cost of a Solvency II implementation to UK companies.

A Solvency II implementation uses SCR (Solvency Capital Requirement) to measure the capital available to a pension scheme. 

SCR is measured according to “basic own funds” – a measure of assets minus liabilities. The SCR is calculated so that the risk of insolvency in a year is less than 0.5 per cent, therefore each year a scheme meeting the SCR would have a 99.5 per cent chance of remaining solvent.

The measure of SCR can then be used to calculate the liabilities of pension schemes in relation to their current assets. JP Morgan have calculated that the Best Estimate Liabilities of pension schemes in the UK amount to £1.6 trillion using the method for calculating SCR. However, the financial assets of these schemes total £1 trillion. Subsequently, schemes would have to make up a shortfall of £600 billion.

However, JP Morgan themselves note a number of caveats to the estimate, such as that the shortfall depends “on the ability for non-financial assets to meet the requirements”. Moreover, Robin Ellison of Pinsent Masons also noted that “there is a good chance that the worst will not happen” in his response to the plans.

Without knowing more detail of the estimates, it nevertheless seems that the £600 billion figure being quoted is an upper estimate at best of the cost of Solvency II implementation.

Furthermore, as a Call for Advice, the proposal is at a very early stage of development, and the Mail may have overstated the certainty that the EU will eventually “force” it into law.

Conclusion

It is not clear whether the proposed changes will have the effect claimed, since there is no official calculation for the SCR other than that used for the purposes of insurance.

In addition, it seems that both Pinsent Masons and JP Morgan regard the calculation as a worst-case scenario. As far as JP Morgan’s calculations are concerned however, it seems that using Solvency II to calculate the required capital could still result in a significantly greater cost for companies.

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