UK Faces Age-Related Debt Crisis

by Robert Lee, Tax-News.com, London

11 July 2011

The rising costs of the UK's ageing population will mean an increasing debt to GDP ratio that could only be reduced by a combination of a rise in state pension age, tax hikes and spending cuts, according to new research by PwC.

The research, published ahead of the Office of Budget Responsibility's release of the first detailed report on the UK's long term fiscal sustainability, warns that raising the retirement age alone will not solve the issue of high public debt levels.

The UK's public debt to GDP ratio sat at just below 40% before the financial crisis in 2007. PwC's figures show that, were the UK to continue with its current policies, debt would reach 90% of GDP by 2050, and continue rising.

This long-term squeeze on the public finances is largely down to two factors, says PwC. In the first instance, the pensions, health care and long-term costs of the large "baby boomer" generation born after the Second World War will have to be paid by smaller numbers of working age people in later generations. Secondly, with people living longer, there will be a steady rise in age-related spending.

The so-called "support ratio" is falling, meaning that, while there are now 3.6 people of working age for every person above state pension age, by 2050, this will have decreased to 2.4. In addition, PwC's figures show that, by 2050, age-related spending will have increased on 2009/2010 levels by 4.9%, to 27.5% of GDP.

Were the government to attempt to tackle this with a further increase in state pension age, on top of the rise already planned, and make it 70, rather than 68, by 2046, this would still not be enough. Debt would hit 80% of GDP rather than 90%, which is a far cry from pre-crisis levels.

Therefore, PwC concludes that, in order for the UK to be able to reduce its public debt to 2007 levels, there would need to be fiscal tightening of 1.3% of GDP by 2020, which is equivalent to finding an additional GBP20bn.

This would need to be funded through spending cuts and/or tax rises, in addition to increasing the state pension age to 70 by 2046. Tax hikes would equate to a 4% rise in the rate of VAT, or a 2% increase in both employer and employee national insurance contributions.

John Hawksworth, chief economist at PwC, said: “The government has already taken steps to address this problem through reforms to public sector pensions and has started the process of raising the state pension age. But the bigger challenge relates to health and long-term care costs.

Current and future UK governments have time to address this but the longer that action is delayed, the higher the eventual costs will be,” Hawksworth warned.

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