A new report from pension consultants LCP highlights the problems caused to the Chancellor by the ‘triple lock’ on the state pension, but suggests an option which could keep faith with his manifesto commitment whilst avoiding a surge in state pension spending.

Under the ‘triple lock’ policy, which has been in force for the last decade, the basic state pension has to rise each year in line with the highest of:

• The growth in prices, as measured by the CPI index over the year to September;
• The growth in earnings, as measured by the average earnings index in the year to July;
• A floor of 2.5%.

The relevant average earnings figure for the next uprating is expected to be published on Wednesday (16th) whilst the September inflation figure will be published in mid October.

The 2019 Conservative manifesto reinstated the party’s commitment to the triple lock having dropped it for the 2017 manifesto.  However, a simple application of the triple lock would present the Chancellor with two problems:

a)    The next uprating (for April 2021) would almost certainly be by 2.5%;  this is because inflation is likely to be close to zero and average earnings may even be falling;  paying an above-inflation increase to pensioners when millions of workers are facing job insecurity could be politically challenging;  this would especially be the case if the temporary £20 per week increase in universal credit was unwound at the same time;

b)    The following uprating (for April 2022) could be much larger if average earnings recover over the next year;  earnings have been depressed during the current crisis, especially as more than 10 million workers have been covered by ‘furlough’ schemes which only cover up to 80% of pre crisis wages;  as these schemes end and people either lose their jobs or return to something like full pay, average earnings could rise sharply;  the OBR estimates an earnings growth figure of 5% could feed in to the ‘triple lock’ calculation;  a 5% pension rise could be even more challenging if inflation remains low and unemployment remains high;

The LCP report considers a number of ways in which the Chancellor could reduce the cost of pension increases in the next two years.  All of these have their problems however, over-and-above the need to break the Conservative manifesto pledge.  In particular:

• Anything which results in a link to inflation could lead to a derisory increase in 2021;  if inflation was 0.5% then the cash increase in the basic state pension could be just 67p per week;
• Anything which simply linked to earnings growth could mean a state pension freeze in 2021 (followed by a surge in 2022);

The report then sets out a way in which the Chancellor could potentially square the circle – by applying the principles of the triple lock over two years rather than one.  With low inflation and limited two-year earnings growth, the most likely outcome would be that the triple lock could be delivered over two years by increases of 2.5% in both April 2021 and April 2022.  These would in both cases probably be above the prevailing inflation rate, giving pensioners a real-terms increase, but would avoid the surge in pensions in 2022 which would otherwise happen.  Compared with the simple triple lock, the two-year triple lock could save the Chancellor £1.5bn per year in 2022/23 and each year thereafter.

Commenting, LCP partner Steve Webb said:

“The basic idea of the triple lock was to make sure that pensioners maintained their real living standards, did not fall behind the working age population and never faced a derisory cash increase.  But the triple lock was not designed for times like these.  If the Chancellor is keen to keep the spirit of his manifesto commitment but to avoid a surge in the state pension, a ‘two year triple lock’ could be the answer he favours”.

LCP Senior Partner Bob Scott said:

“The whole area of state pension increases has become highly politicised from year-to-year.  Once the present crisis is over, there is a case for stepping back and asking what the state pension system is trying to achieve and what this implies for the right level of the state pension.  The process of annual indexation could then be based on those principles rather than short-term political considerations.”