THE NEW GOVERNMENT PENSION SCHEME A SIMULATION ANALYSIS
| Published date | 01 February 1980 |
| DOI | http://doi.org/10.1111/j.1468-0084.1980.mp42001004.x |
| Date | 01 February 1980 |
| Author | JOHN CREEDY |
THE NEW GOVERNMENT PENSION SCHEME
A SIMULATION ANALYSIS
By JOHN CREEDY*
For herein Fortune shows herself more kind
Than is her custom: it is still her use
To let the wretched man outlive his wealth,
To view with hollow eye and wrinkled brow
An age of poverty.' (Antonio: Merchant of Venice)
I. INTRODUCTION
In April 1978 a new Government Pension scheme was introduced in Great
Britain, and received support from all of the major political parties. In fact the six
years 1969-74 saw the publication of three white papers giving details of new
pension plans, which perhaps reflects the increasing voting power of pensioners in
an ageing population.1 The main features of the new scheme are as follows. The
Pension is of the two-tier variety with a flat rate pension and additional earnings-
related component up to an upper-limit; benefits are adjusted for inflation using a
price index; the earnings-related component in the mature scheme is based on the
individual's average earnings in the best 20 years of working life, after each year's
earnings are adjusted for the general growth of earnings. Finally, individuals may
(subject to certain conditions) contract out of the upper-tier of the pension.
It is, however, surprising that decisions about alternative pension plans have
been made with so little information about their likely implications. A small
number of useful studies is available, but an important characteristic of most of the
work on pensions, and the financial estimates and examples given in the White
Papers, is the assumption that individuals receive a constant real income stream
throughout working life.2 This assumption considerably simplifies the problems of
estimating the financial requirements and of assessing the redistributive impact of
alternative schemes. Nevertheless it precludes any discrimination between many
alternative schemes. For example, policies which give a retirement benefit related
to final year earnings, or earnings in the last few years of working life, or annual
average lifetime earnings, or the average of the best 20 years' earnings would be
expected to result in quite different levels of benefit, but the differences will not be
captured by studies which use an assumption of constant earnings over life. In
particular estimates of the total amount required to finance pensions payments in
any year are likely to be seriously misleading.
The major purpose of this paper is therefore to examine the new pension scheme
using information about the pattern of changes in earnings over the life cycle.
* This paper forms part of a larger project carried out at the National Institute of Economic and
Social Research, and financed by the Department of Health and Social Security. I should like to thank
Michele Foot for computing assistance, and the editors of this Journal for comments on an earlier draft
of the paper.
'The Whfte Papers are Cmnd. 3883 (1969), Cmnd. 4755(1971) and Cmnd. 5713 (1974).
2For Great Britain these include Black (1958), Atkinson (1969, 1970), Prest (1970), Titmuss (1973)
and Wilson (1974). The studies of United States pension schemes are too numerous to mention here, but
an interesting recent study is that by Aaron (1977).51
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