Benefit uprating: the barrier to sustainability

18 August 2015

The Summer Budget firmly placed sustainability at the heart of welfare policy. It committed to a four-year freeze on working-age benefits from April 2016. This builds on a one-per-cent cap on working-age benefits implemented by the Coalition Government between 2012-13 and 2015-16, and marks an extension of the Conservatives’ proposed two-year freeze.

The cap and freeze are short-term crisis policies. They are designed to tackle the deficit (the freeze is forecast to save £4 billion a year by 2019-20) and ensure that benefit inflation does not outstrip wage growth, as it has since 2008. Uprating benefits below price inflation will have significant costs for claimants, but the Secretary of State for Work and Pensions, Iain Duncan Smith, has indicated that when the fiscal position improves, “benefits will go back to inflation”.

Yet, simultaneously, the Government has committed to retaining the triple lock on the State Pension. This ensures the State Pension grows by the greater of 2.5 per cent, average earnings or CPI inflation. CPI tends to be around 2 per cent a year but will hover at around one per cent until late-2017, while the OBR forecasts wages to grow at around 4.5 per cent a year in the long term. This means that the State Pension will outstrip price inflation for the next few years, as the chart shows.

Triple lock versus CPI

This makes the triple lock expensive. Robert Chote, the Chairman of the OBR, has argued it will put “systematic upward pressure on pensions spending over the long term.” This is because the policy creates a ratchet effect on the future value of the State Pension: when earnings are outstripped by inflation or 2.5 per cent (as they were in 2014), pensioners make a gain on wage earners. Consequently, the triple lock is an anathema to the Government’s aim to ensure sustainable welfare spending. By 2064-65, it will cause an increase in annual State Pension expenditure equivalent to 1.3 per cent of GDP compared to an earnings indexation—as the below chart shows. This more than offsets the 2019-20 forecast savings, which will be equivalent to 0.17 per cent of GDP. The triple lock thereby threatens to undermine any fiscal progress made between 2010 and 2020.

Projected State Pension cost

Hence, to ensure the wellbeing of claimants, government should create long-term policy that is not only predictable, but also sustainable. This cannot be achieved through short-term caps and freezes. To avoid reversing a decade’s worth of savings and, more importantly, to ensure the sustainability of the welfare system, the Government should take a long-term approach to uprating policy.

Alex Hitchcock, Research Assistant, Reform

 

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