That public sector pensions timebomb

Everyone knows there is a public sector pensions timebomb. All these highly paid public servants are starting to retire on huge pensions and, if the government doesn’t do something about it soon, the cost of these pensions will become unsustainable and will cripple the public finances.

That’s the received wisdom anyway. Looking at the projections in the Hutton report, though, it seems that the timebomb might not be as timebomby as we thought. Indeed, John Hutton concludes that the cost of public sector pensions will peak somewhere between now and 2012-13. Thereafter, even with the most pessimistic assumptions, the cost as a proportion of GDP will fall.

The two charts below show the cost of public sector pensions as a percentage of GDP. The first chart is based on projections by the Government Actuary’s Department, the second on Office for Budget Responsibility projections but both give a similar picture.

Among other factors, the current public sector pay freeze, higher employee contributions and the shift from RPI to CPI for indexing purposes have already reduced the liabilities. The cost of public sector pensions will rise in real terms but even the UK’s anaemic levels of growth will more than keep pace with it. The peak of the liability is, or soon will be, behind us.

Oddly, not many of the articles I have read over the past few days seem to have picked this up. Only Jeremy Warner in the Telegraph and Patrick Collinson in the Guardian put the so-called pensions timebomb into perspective and neither piece made it into print.

But just because the public sector pensions liability is past, or near, its peak doesn’t mean that we have nothing to worry about. The graphs also show that the cost relative to GDP will not return to pre-recession levels until sometime after 2030. At the same time, at least for the next few years, the public debt and the resulting debt repayments will be rising too. Together with the general increase in public sector costs brought about by an aging population, this will make 1.7 percent of GDP much harder to find than it was when the public finances were in better shape. 

Funding public sector pensions, then, will not be cheap. 1.7 percent of GDP is still a hell of a lot of money – around the same size as the defence budget, according to Jeremy Warner. But the suggestion that the pensions of public servants will bring the country to some kind of financial apocalypse is rubbish. The future liability is nowhere near as spectacular as some would have us believe. It’s more like a slow burning bonfire than a timebomb.