Class of 2006: a lifebelt for the IPOD generation

Last year the independent think tank Reform published the first analysis of the impact of tax, public expenditure and higher education policies on young people under 35. The research outlined the difficult economic position of the young and explained how this constituency has been unfairly burdened both by the actions of successive governments and by a general unwillingness to assess how policy decisions affect the financial prospects of the younger generation. It termed young people the IPOD generation: Insecure, Pressurised, Over-taxed and Debt-ridden.

This year Reform presents new evidence which further supports these conclusions. Several important trends continue to undermine young people’s financial security. For example, young people’s earnings are rising by less than any other age group; young people are most likely to be in debt; house prices have continued to rise beyond the range of young people’s earnings. The Department for Education and Skills has reported that the expansion of the graduate labour market is showing signs of depressing returns to degrees.

Young workers without children have paid higher taxes without receiving any compensation from new tax credits. Since 1997, the effect of Government policy has been to reduce the net income of a two-earner couple without children by 3.4 per cent. In contrast a non-working couple with children has seen their income increase by 15 per cent.

The effect of the Government’s changes to the tax and benefit system between 1997 and 2005 has been to penalise young people further. This shows that changes in the tax/benefit system between 1997 and 2005 have benefited pensioners, households with children and unemployed people. Net losers include households where one or more people work and households without children.

Looking into the near future, last year’s report argued that people under 35 in the UK could become a crossover generation who pay the cost of the welfare state without being able to expect many of the benefits. The key policy proposal of the last year – the Pensions White Paper, published subsequently to the final report of the Pensions Commission – has turned this fear into reality. While the White Paper is touted as a consensual, technocratic solution to a complex problem, it represents a very bad deal for young people.

Older people will gain enormously from a rising state pension linked to earnings. But they will face little of the costs in financing it. Nor will they have to work longer: people over 47 today will still be able to retire at 65.

In contrast young people must fund the increase in the state pension at the same time as facing automatic contributions of 3 per cent of their salary, combined with the lower wages that will inevitably result as employers compensate for their own compulsory pension contributions of 4 per cent of salary. In addition, they face a higher state retirement age at 68.

From 2012, young people can expect to pay high taxes and compulsory or near-compulsory payments towards higher education and pensions. It may be thought that young people face relatively low taxes at the beginning of their careers. In fact the effective tax burden for the typical young graduate will be 47.6 per cent, before facing any other costs of living. This will impose a considerable hindrance on enterprise and wealth creation for young people and the whole economy.

The UK Treasury deserves great credit for publishing annual estimates of the intergenerational fairness of the UK tax and spending system. Its latest estimate finds that there is currently an immediate intergenerational gap of around 2.5 per cent of GDP. That is, in order to ensure that future generations are not over-burdened by the spending on today’s generations, taxes must rise or spending must fall by around 2.5 per cent of GDP (£27 billion).

But the Treasury’s estimates of intergenerational fairness are based on optimistic assumptions, including very high levels of migration and very low increases in public spending on healthcare and on long term care. Any slippage on these estimates will further increase the need for higher taxes on young people.

The contrast of a highly pressured younger generation and a wealthy and relatively carefree baby boomer generation is becoming even more marked. International research has suggested that people over 50 – known as “lifestylers” and “seachangers” – are developing lifestyles similar to teenagers. The baby boomers are clearly winning the generation game.

Since the publication of Reform’s last report on young people, there has been some recognition amongst politicians of the importance of the poor economic outlook of today’s IPOD generation. The party that has signalled the clearest understanding of the issue of intergenerational fairness is the Liberal Democrats. The final report of the Liberal Democrat tax reform policy group points to inequity between the baby boomer generation and young adults.

It would be appropriate for both Government and Opposition to give the issue greater priority since it is directly relevant to both of their key policy reviews and statements:

  • The Government’s 2007 Spending Review aims to address “a rapid increase in the old age dependency ratio as the ‘baby boom’ generation reaches retirement age” and “examine the key long-term trends and challenges that will shape the next decade and assess how public services will need to respond”;
  • The Conservative Party’s key policy document “Built to Last” argues that “the enterprise of our people is the source of our progress”. It concludes by wishing to tackle “political apathy and alienation, particularly amongst young people, through innovative campaigning on the issues that make a real difference to people’s lives”.

At a minimum, the improvement of the economic position of young people should be placed at the heart of the 2007 Spending Review and the Conservative Party’s policy review. Above all, these reviews must focus on bringing the medium and long term growth of public spending under control to enable the tax burden on younger people to be ameliorated.

The Pensions White Paper represents a turning point in the debate on improving economic performance in the long term. It can either be the moment when the political classes wake up to the unfairness of the tax/spend balance and take action to redress it; or it can herald a difficult period in which the demands of an ageing population take political precedence and the needs of young people are ignored. The former course would have great and lasting benefits for the UK economy and society.