State pensions have been around for over a hundred years in various forms – most countries have some form of state-provided pension funded usually by social security contributions.
Currently, the UK has a ‘triple lock’, which was introduced in 2010 and effectively guarantees it cannot lose value in real terms and will rise at least in line with inflation.
This means the state pension will increase by the highest of the following three measures:
- Average earnings
- Inflation as measured by the Consumer Price Index (CPI)
- A fixed increase of 2.5%
Hence, even if inflation and CPI was under 2.5%, there will still be a minimum increase each year.
This all sounds fine and altruistic, but it leaves the provider – i.e., the UK Treasury – with an unknown future annual guarantee.
Even a generous defined pension scheme usually has an upper limit in place for future inflation increases, such as a maximum of 5% per annum, which gives some form of financial underpin.
Research published by the Institute for Fiscal Studies (IFS) has revealed the triple lock could increase spending by anywhere between a further £5bn and £45bn per year by 2050.
Their research also shows the triple lock has already cost £11bn a year compared with increases linked to just prices or earnings since 2010.
For comparison, the IFS has calculated the new state pension would now be about £180 per week, 11% lower than the current £204 per week.
In any financial market, the one thing to avoid is uncertainty and that is exactly what we have with the state pension at the moment. Inflation remains high with no immediate forecast of a reduction and the likelihood is the state pension will rise again significantly in April 2024.
With a background of economic uncertainty, cost of living crisis and many other current woes, the IFS is rightly concerned any lack of control over state pension increases could have consequences, such as reduction in other state benefits and more rapid increases in the state pension age.
The concept of keeping the state pension in line with overall inflation was fine during the decade of low inflation, which started in 2010. However, to avoid the potential of runaway costs, there now needs to be a realistic cap.
source: IFS The Triple Lock: Uncertainty for pension incomes and the public finances 08 Sept 2023