The “faithful application” of the principles set down by the House of Lords in Wells v Wells was the reason Lord Chancellor Liz Truss rejected calls to take a ‘mixed portfolio’ approach to setting the discount rate, in a move one leading observer suggested showed “nimble political footwork”.
In a statement of reasons issued after the headline announcement that she would slash the rate from 2.5% to -0.75%, Ms Truss said the governing principle behind her decision was the one identified by Lord Hope in Wells in 1999.
He said: “[The discount rate] is the rate of interest to be expected where the investment is without risk, there being no question about the availability of the money when the investor requires repayment of the capital and there being no question of loss due to inflation.”
Ms Truss said: “I consider that a faithful application of the principles in Wells v Wells leads to the 100% ILGs approach as the best way, in the current markets, of ensuring [this].”
The mixed portfolio approach, in contrast, “runs counter to these principles by requiring the assumption by the investor of a greater degree of risk”.
She explained that a portfolio of ILGs, comprising stocks spread across a range of redemption dates, guarantees the investor an inflation-adjusted income, known with certainty at the time of the award.
The Lord Chancellor acknowledged that several respondents to the consultation exercises conducted by the MoJ in previous years said it might be more appropriate and realistic to use a mixed portfolio approach, in which other securities feature.
Though these arguments “have some merit”, Ms Truss said she was not persuaded by them.
As well as the need to follow the Wells ruling, she said she specifically considered whether the 100% ILGs approach might create different risks, such as the risk of not being able to meet unexpected capital needs.
“However, I consider that those risks should be capable of effective management and that they are outweighed by the risks associated with the ‘mixed portfolio’ approach.”
The Lord Chancellor said the process of review had been “lengthy and extraordinarily thorough”, reflecting “the complexity and importance of the subject matter”.
This included the responses to a Ministry of Justice consultation in 2012, the report of an expert panel in 2015 (which reached majority and minority conclusions) and the responses of statutory consultees, HM Treasury and the Government Actuary.
Disagreement between paying parties and claimant lawyers continued yesterday. Carolyn Fairbairn, director-general of the CBI, said: “The unexpected, significant cut to the discount rate is a setback for the UK’s world-leading insurance industry. It subjects insurance companies to a large and sudden shock at a time when stability and predictability should be prioritised.
“We support a fair framework for claimants and defendants, but the way in which the discount rate is calculated is flawed, as it is based solely on short term market movements.
“It’s important that the planned consultation happens straight away, to make sure long term economic factors are included in the calculation of the discount rate.
“From the increasing strain of business rates to questions over the UK’s future relationship with Europe, the cumulative burden of challenges is weighing on UK companies. Now more than ever, it is critically important that firms have a stable policy framework to in which to grow, invest and drive prosperity for all parts of the UK.”
Stuart Henderson, managing partner of Irwin Mitchell’s personal injury practice, said the new rate was “good news for seriously injured people” and reflected “the reduced rate of return on low-risk investments over recent years”.
He continued: “It is unfortunate, though, that this new rate has been introduced together with a promise of an early government consultation around the approach to setting this rate which has just created further uncertainty.
“Already, we have seen defendants putting off meetings to settle cases in the hope that they may find a way around the rate that has been set through the pending consultation or by other means.
“There was a full consultation on the principles around the setting of this rate in 2013. A further consultation on this is in our view premature and creates further unnecessary uncertainty for injured people and their families who want to bring their cases to a conclusion and get on with their lives.”
Meanwhile, Alistair Kinley, director of policy and government affairs at defendant firm BLM, gave a more nuanced reaction. “As a matter of process, Ms Truss should be congratulated for not ducking a very awkward decision,” he wrote on his blog.
He also suggested that the announcement represented “some nimble political footwork” which provided some short-term breathing space.
“First, she may have prevented a further judicial review by sticking with ILGs. Second, given that the change is to bite from 20 March, the Chancellor’s Budget next week may be unaffected.
“Third, she has now set in train a very clear process for legislative change to the overall approach and because of the ‘significant implications’ for those paying claims (insurers in particular) that process already looks very difficult indeed to derail.
“Moreover, the recently-published Prison and Courts Bill could provide a legislative wrapper into which provisions about any new approach to the discount rate could be readily inserted well before the year end.”