Read our cover story on workers vs pensioners—the battle of our time
Today, the Chancellor will deliver his Autumn Statement. Among his announcements is expected to be mitigation for the planned Tax Credit cuts. Rejected by the House of Lords, the cuts have rightly been criticised across the political spectrum. Any mitigation will, however, come with a price tag. As the Work and Pensions Select Committee have argued, in closing that savings gap the Chancellor should avoid further hitting working people and instead look at the “generational balance of welfare expenditure.” They are spot on. Addressing the generational chasm in welfare is essential to ensuring a fair and sustainable system—and it can deliver savings.
In 2011, the State Pension was linked to the triple lock, a mechanism that increases payments to the highest measure out of wage growth, the Consumer Price Index (CPI) or 2.5 per cent. While pensioners have been treated to inflation-busting rises, the real value of working-age benefits has steadily declined. In 2013 the increase in most working age benefits was capped at 1 per cent for three years (during which time CPI was on average double that). From 2016 those working-age benefits will be frozen for a further four years.
The result of these measures will be profound. In the ten years to 2020, the State Pension is forecast to increase by 36.1 per cent. The comparable figure for Jobseeker’s Allowance is just 11.7 per cent. The Government may be right to argue pensions should be uprated by a more generous mechanism than other benefits. But now that pensioners have higher than average incomes once housing costs are taken into account, the current approach is profoundly unfair.
Even when the benefit freeze ends there will be little respite. In 2010, the Chancellor changed the standard measure of inflation used to uprate working-age benefits from the Retail Price Index (RPI) to the less generous CPI. At the time, the Chancellor argued CPI best reflected the inflation experiences of welfare recipients. ONS research suggests he is wrong. Benefit recipients have, in recent years, experienced higher levels of inflation than that recorded by CPI. This experience is not confined to the UK. The Chicago Federal Reserve calculates inflation has been higher for those in poverty for 139 of the last 168 months. In Australia, the Selected Living Cost Indexes reveal those receiving government transfers experience above average levels of inflation.
If the living standards of beneficiaries are to be preserved in the long run neither CPI nor the now discredited RPI are appropriate. A more bespoke solution is needed. As Reform argued in its recent report, Updating Uprating, the government should work with the ONS and UK Statistics Authority to design a new index that specifically aims to reflect the price changes experienced by benefit recipients. We estimate the difference between this measure and CPI would be somewhere in the region of 0.3 per cent each year. This "wedge" might not sound like much, but over time the gains for beneficiaries are pronounced: by the end of a ten year period, the difference between a CPI-linked Jobseeker’s Allowance and Reform’s approach would be £155 a year. For families on low incomes, this could have a material impact on their wellbeing.
Abandoning the freeze and linking key benefits and tax credits to this “Benefit Uprating Index” would cost the Government £13bn over the course of the Parliament. This expenditure could be funded through reforming the triple lock, a policy which is now costing £6bn a year more than a standard earnings link. The Government is right to link the State Pension to earnings growth, as well as offer protection against inflation during periods of economic turbulence. But these objectives could be achieved without the exorbitant price tag. Pegging the State Pension to a proportion of wages in the medium term, as is the case in Australia, would give the Chancellor space for additional generosity when inflation outstrips wage growth. In contrast to the triple lock, this would then be clawed back when earnings rebound. Returning the State Pension to the proportion of wages seen in 2010 would save the Government £20.9bn over the next five years.
Pension reform is tough politics for the Government. The triple lock is an electoral calculation aimed at the overwhelmingly Conservative-leaning grey vote. As the response to the Tax Credit cuts has shown, however, welfare reform must be perceived to be fair, and some Conservatives are starting to question the sustainability of the triple lock. If implemented, Reform’s recommended package of reforms could alleviate concerns about intergenerational unfairness and save almost £8bn—funds that could be used to soften the cuts to tax credits. The Prime Minister has often repeated the mantra that we are “all in this together”. It is time to make that analysis more credible.
