The Cost of an Ageing Population will “Dwarf” the Financial Crisis
In his Emergency Budget earlier this month, Chancellor George Osborne hinted at the impact of an ageing society on public finances. Whilst his speech wasn’t explicit about demographic change being a cause of some of the fiscal challenges we face, he described the cost of public service pensions being one of the greatest long term pressures facing our nation’s finances.
Mr Osbourne argued out that “by 2015-16 we will be spending over £10 billion a year simply to meet the gap between pension contributions and payments to the unfunded pensions they support”. At the same time, he announced plans to accelerate the increase in the State Pension Age to 66.
An “attack” on public sector pensions has long been anticipated. And behind the scenes, it has been clear for a number of years that the State Pension Age would increase quicker than currently planned.
But the impact of demographic change to public finances should not be new to politicians. Last October, the European Commission published its 2009 sustainability index (1). The report found that the public finances of the UK, Spain and 10 other European Union countries were at long-term high risk (2) and that “the cost of an ageing population is expected to “dwarf” the impact of the current financial crisis many times over”.
It is not all bad news. The Commission reported the success of several countries in getting their finances under control. They argued that “Bulgaria, Denmark, Estonia, Finland and Sweden have relatively stronger budgetary positions and have undertaken comprehensive budgetary reforms in recent years.(1)” And since the Sustainability Index was published, we have begun to see Governments across Europe starting to increase pension age (often against vigorous domestic opposition).
An ageing society is likely to cost the state more money. But it is also a problem which is easier to put aside as one for “tomorrow”. The impact of a future ageing population on public finances will go way beyond the cost of pensions to the cost of health, care and other welfare. Meanwhile, the impact of this trend on intergenerational fairness should not be dismissed.
So in the context of saving money in an ageing society, the Chancellor is likely to find himself running in order to stand still.
There will also be some difficult questions about spending on older people which will undoubtedly arise over the next few years. Should we increase the age of eligibility for other “benefits” such as the “free bus pass” or the winter fuel allowance for example? Should the “benefits” be means tested? Or should we, for example, ask people who want to benefit the free bus to pay a small registration fee (say £20) to cover some of the costs? These are difficult questions but ones which won’t go away.
Part of the solution has to be to take a holistic and strategic look at an ageing society. For example, Can we find innovative ways of paying for preventative healthcare? Can we incentivise people to stay active for longer? Can we deliver more and better jobs for those close to (and beyond) the State Pension Age? Or could we offer a flexible state pension where individuals could choose to draw down a smaller state pension earlier in retirement in return for a more generous one later on?.
In his speech Mr Osbourne argued that “Past prudence was an excuse for future irresponsibility…. Our fiscal mandate will be forward-looking.” One of the biggest challenges for the next five or ten years will be to work out how to address the fiscal challenge of demographic change. Sweeping the future cost of demographic change under the carpet would be very dangerous for current and future generations of pensioners.
David Sinclair
1) http://ec.europa.eu/economy_finance/een/016/article_8891_en.htm
2) http://myreader.co.uk/msg/129630153.aspx