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Steve Bee: The UK’s state pension crunch will hit in the 2020s

steve bee

According to Gordon Dryden Gilling-Smith’s 1967 Guide to Pensions and Superannuation, the first recorded pensioner was someone called Martin Horsham. Horsham retired on 10 March 1684 on a pension of £40 a year.

That may not sound much today but, at that time, average yearly earnings in skilled trades were between £30 and £36 a year, while in unskilled trades and agriculture they were between £9 and £20. Horsham’s pension was paid to him by his successor in the workplace, a Mr G Scroope, from his own earnings of £80 a year.

Irrelevant to pensions today? Not really. The principle established – that of the pensions of those in retirement being funded by a levy on those at work, something we today refer to as a pay-as-you-go system – is the structure on which our state pension system and most other similar systems around the world are based.

That said, the state pension in the UK today is not so generous as to provide a pension of double average earnings. It will not make us anywhere near as wealthy as Horsham was relative to others when he retired all those centuries ago. The maximum state pension anyone can get nowadays is around 30 per cent of average earnings.

For pay-as-you-go state pension schemes to work across the generations as people join and leave the workforce they need to take account of the ever-changing demographic and economic realities. Clearly, if we were ever to have an increasing number of young taxpayers in the workforce and a relatively small number of people retiring then it could be expected we could afford to pay a generous level of state pension.

Equally, the worst outcome would be if we were to have a high number of people retiring at a time when we have a relatively low number of younger taxpayers. If that were to happen then you would expect lower state pension outcomes as a result.

State pension costs can only really be controlled in two ways. The amount paid can be varied or the length of time the pension is paid can be varied. Recent changes to the state pension in the UK have seen a popular higher pension promise but with an unpopular later attainment age at the same time: a neutral approach in my view. But what of the future following the likely economic and demographic uncertainties caused by last week’s vote to leave the EU?

The effects of that will begin to be felt during the 2020s as our terms for disengagement with the EU are finalised. The 2020s is also the decade when the UK’s so-called baby boomers reach retirement age. While the post-war baby boom in the US lasted through the 1950s, the same was not the case in the UK. Our post-war baby boom was over by the end of the 1940s. Our real baby boom happened in the 1960s.

Our pay-as-you-go state pension system in those soon-to-be days will need to react to the realities of a sharply increasing number of pensioners in light of the current demographic and economic landscape.

Steve Bee is director at Jargonfree Benefits


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There are 8 comments at the moment, we would love to hear your opinion too.

  1. Richard Carne 4th July 2016 at 1:48 pm

    Or to put it another way the state pension is the ultimate Ponzi scheme!

  2. Steve is in my view one of, if not the, preeminent pensions guru. But this article has missed a point.

    “The maximum state pension anyone can get nowadays is around 30 per cent of average earnings.”

    Not so I have several clients (including myself who take significantly more. 44% is by no means unusual.

    The highest example is 68.8% of average earnings as measured by the current £27,600. How so?

    A lady, deferred for 10 years to age 70 at 10.4% compound escalation. (Serps included). Then Voluntary Class 3A lifted this to a further £25 per week.

    Let’s see if the triple lock holds! Now you know why we need EU immigrants.

  3. Correction. The lady in question deferred for about 8 years.

  4. Harry – thank you (so much) for your kind words. I think many who have already retired will have achieved decent replacement rates compared not just to average earnings, but some even with regard to their own earnings. The Serps pension was once truly earnings-related, but latterly it (and S2P) became more redistributive, like the basic pension. That, it is true, favoured lower earners in terms of comparison with their earnings levels. But my point was nothing more than a crude comparison between the level of average earnings and the future level of a single-tier pension from the state. I probably should have thought more about how I constructed that sentence, or even omitted it! Steve.

  5. Steve

    Most gracious of you. You of course are still correct in outline. The UK pays the lowest state pension as a percentage of national average earnings in the whole of the OECD. We used to be second worst after Mexico, but the latest revisions secured our place on the top step of the podium. So al;thogh there may well be exceptions the gist of your article still holds good.

  6. Great article, as ever. I was very pleased to see that earlier this week some key industry figures weren’t afraid to mention the “elephant in the room”, i.e. not only do we need to review (ditch) the triple lock, we need a wholesale review of the purpose of the state pension. We should be asking more: whether it should be means-tested, tapered etc. As you say above, it is a pay-as-you-go system, so I think there’s an almighty crunch on the horizon when we realise that the generations that follow the baby-boomers simply won’t be able to afford to pay for it. This is not just because of the population changes but because Generation X and Y will be substantially worse off (housing crisis, pension crisis etc etc). I recommend reading David Willet’s The Pinch: “How the baby boomers took their children’s future – and why they should give it back” (!) However, one glimmer of hope is that as voting demographics change and the government realises that they need to attract the votes of Generation X and Y, then maybe we’ll start to see some policy change.

  7. I see a clear distinction between the have (final salary pension) and the have-not (final salary pension) even amongst the Baby Boomers, ie within the same age group. Why are they so often lumped together as if there were no distinction? I know of one situation where there exists a 20-year gap in retirement age between siblings: Baby Boomer 1 with public sector DB pension from age 50, and BB 2 with DC pension from age 70 (expected). It does not feel right to put BB 2 in the same category as BB1, other than when discussing cost of housing for that age group, for example.

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