Department of Work and Pensions, 2002b, Simplicity, Security and Choice: Working and Saving for Retirement—the Pensions Green Paper, December.
McKay, S., and D. Smeaton, 2003, “Working after State Pension Age: Quantitative Analysis,” DWP Research Summary (available at www.dwp.gov.uk/asd/).
Prepared by Petya Koeva.
More recently, HM Treasury (2003a) also mentions that “publicpension spending is projected to remain stable over the next 50years, fluctuating between 4.9 and 5.4 percent of GDP’” Note that public service pensions are not included in these projections.
The Long-term Public Finance Report (HM Treasury, 2003a) provided more recent aggregate estimates of the long-term public pension projections. However, as these estimates did not include a breakdown of the components of pension spending and were broadly similar to those in the 2002 Pension Green Paper, the discussion in Sections C and D focuses on the latter.
For a single pensioner, the breakdown is: 21 percent from private pensions, 16 percent from investment and earnings, and 63 percent from state benefits. For a pensioner couple, the corresponding figures are: 30 percent from private pensions, 24 percent from investment and earnings, and 45 percent from state benefits. Note that some of the private pension income comes from contracted out SERPS/S2P rebates, and so in effect is state support.
This paper refers to the BSP as a flat-rate benefit for presentational purposes. References to the BSP rate are to the standard weekly amount received by a person with a full contribution record. Strictly speaking, the BSP is not paid at a flat rate, but depends on each person’s National Insurance Contribution (NIC) record. To qualify for the standard weekly BSP rate, men need to have 44 qualifying years (39 for women). If a person does not have a complete contribution record, he receives proportionately less.
The old dependency ratio for the Basic State Pension increased by about 40 percent between 1950 and 1990 (see GAD (2003b)).
From 1946 to 1974, the indexation of the Basic State Pension was done on a discretionary basis.
For a single pensioner under 80.
In particular, the SERPS benefits were reduced—over a ten-year transition period—from 25 percent of average revalued band earnings (i.e., between the lower and upper earning limit) over the best 20 years to 20 percent of average revalued band earnings over the entire working career. At the same time, the 1986 Social Security Act proposed to decrease the spouse’s benefits to 50 percent (rather than 100 percent) of the member’s pension. In addition, it encouraged employees to contract into a personal pension scheme by:(i) providing an extra two percent National Insurance rebate if a member contracted out of SERPS between April 1988 and April 1993; and (ii) allowing members of occupational pension schemes to join personal pension schemes.
The 1993 Social Security Act provided a one percent National Insurance rebate for members of contracted-out personal pension schemes aged 30 and over not to contract back into SERPS between April 1993 and April 1997 and continued (but less generous) National Insurance age-relate rebates after April 1997.
The 1995 Pensions Act abolished the requirement that occupational schemes provide Guaranteed Minimum Pensions (GMPs), substituting it with a less stringent “reference test” requirement. However, it required occupational schemes to pay the full cost of inflation indexation of their pensions (up to 5 percent), ending the state’s commitment to pay for part of the indexation cost. In addition, the legislation introduced age-related rebates for contracting into a defined-contribution (personal or occupational) scheme as of April 1997. A new rebate schedule, which revised upward the rebates for personal pensions and downward the rebates for defined-contribution occupational pensions, was introduced in April 1999 (GAD, 2003b).
Using the interim 2001-based population projections.
Starting in April 2002, no new SERPS rights could be accumulated. Instead, rights to the S2P began to accrue. People who retire between 2002 and 2050 with contributions to both schemes will receive a pension that is a mixture of the two.
See 2002 Pensions Green Paper.
Other pension spending comprises Winter Fuel payments and TV licenses for people aged 75 and over.
This is the definition of aggregate pension spending used in the 2002 Pensions Green Paper and the 2002 Pre-Budget document Long-term Public Finance Report: An Analysis of Fiscal Sustainability. An alternative definition includes two additional components—the housing/council tax benefit and attendance/disability living allowance—amounting to about 1.1 percent of GDP in 2001/02. In 2050/51, the combined cost of these benefits is projected to be 1.2 percent of GDP (GAD, 2003b).
The projections of BSP and SERPS/S2P are produced by the Government Actuary’s Department, which is responsible for estimating the contribution rates required to meet the long-term expenditures of the National Insurance Fund. The projections of the PC are calculated by the Department of Work and Pension (see its 2002 publication, The Pension Credit: Long-term Projections).
The demographic assumptions are based on the interim 2001-based projections. In all years after 2007/08, inflation and productivity growth are assumed to be 2.5 percent and 2 percent, respectively, while employment growth is driven by the demographic projections.
As new pensioners with higher entitlements replace older pensioners with little or no entitlement.
The earnings limits of SERPS/S2P are assumed to increase with prices.
See DWP (2002a).
See Table 5.15 (GADb, 2003).
Jaeger (2003) uses the concept of a full aging pass-through to evaluate the effect of aging on public finances.
This estimate is obtained using information from aggregate data (on state spending on BSP, SERPS/S2P, MIG, other state benefits) and household-level data (the sources of income for the average pensioner discussed in Para. 7). For the sake of consistency and given the emphasis on pensions, income from earnings, investment, and housing/council and attendance/disability benefits is excluded from the calculation.
Indeed, recent empirical evidence suggests that maintaining living standards is one of the main motivations for working past the state pension age (McKay and Smeaton, 2003).
This rise becomes significantly larger—to about 4 percent of GDP—if one uses the projected increase in the dependency ratio implied by the recently released 2002-based population projections.
This is also a point made recently by Adair Turner, the head of the independent pensions commission, in a lecture to the actuarial profession entitled “The Macroeconomics of Pensions.”
The U.K. private pension system comprises thousands of different defined-benefit and defined-contribution schemes, whose assets are held in various pension funds and life insurance companies. There is limited information about past contribution rates and current liabilities.
In a paper on the optimal design of public pensions, Miles and Sefton (2002) illustrates that voters have a preference for a flat rate pension system over a means-tested system, unless the generosity of the means-tested system is considerably higher. However, the authors find that the optimal public pension scheme has some degree of means testing, although the scale of its benefits is very low.
The top-up benefit under the PC will be lower, given the higher income received as a result of the earnings indexation of BSP.
See answer to parliamentary question of June 3, 2003 (http://www.parliament.the-stationery-office.co.uk).
The staff’s projections are obtained by estimating the costs of the PC across the quintiles of the income distribution for single pensioners and pensioner couples. The initial income distribution is based on household data from the 2001/02 Family Resources Survey. Productivity (and earnings) growth is assumed to be 2 percent, and employment growth is consistent with demographic trends. The assumption about the indexation of the PC parameters is the same as in the 2002 Pensions Green Paper.