Who will pay for Sir Humphrey's pension?

published 12 December 2005

The pensions crisis means that many private sector workers are going to face a miserable old age. But public sector workers have no such worries not yet, anyway. Simon Wilson reports

Who gets the best pensions?

Public sector workers. In the private sector, only about 15% of workers can look forward to a traditional inflation-index-linked pension based on a proportion of their final salary. Increasingly, the only option for most private sector employees is to participate in a money purchase' or defined benefits' scheme. These do not guarantee any specific level of income in retirement. By contrast, some 90% of public sector workers still enjoy the relative security of a final salary scheme, and their powerful unions are resisting the idea of later retirement, something the government is strongly encouraging in the private sector.

Why does the public sector get more?

Because public sector workers have traditionally been paid less than people doing equivalent jobs for commercial organisations, they have enjoyed perks such as greater job security and relatively early retirement on a guaranteed final salary pension as a kind of compensation. Today, however, they still get the nice perks but they get paid more, too. The Chartered Institute of Personnel and Development found that weekly median pay in the public sector in 2004 was about 3.5% greater than in private sector businesses. Factor in private sector workers' longer hours and the public sector actually pays an extra 17% per hour. Only the top 25% of workers in the private sector earn more than their public sector peers. So the traditional justification for giving public sector workers especially good pensions looks increasingly shaky. Yet over the past few years, the number of public sector employees in final-salary schemes has overtaken the number in equivalent private sector schemes. Public sectors now (officially) account for about 18% of the country's workforce but for nearly 40% (and rising) of total accrued pension rights.

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Is the public sector getting bigger then?

Yes. From June 1998 to March 2005, official public sector employment rose by 658,000 to 5,824,000. Yet critics say that figure underestimates the true picture because, for example, it classifies GPs as part of the private sector and excludes contract workers. According to the Office of National Statistics' Labour Force Survey, which asks people whether they are public or private sector workers, 7 million workers (out of 28.5 million), or 24%, work in the public sector.

Who pays?

You do. In the private sector, employee and company contributions are invested in a pension fund from which pensions are then paid out. But in the public sector, almost all the state's pensions liabilities are met from current taxation or borrowing, just like any other kind of government spending. £13bn a year is spent on public sector pensions.

Is that liability manageable?

For now. But long term, the Government's own estimate of its unfunded public sector pension liabilities has been steadily growing (see chart, below). The official figure now stands at £460bn up more than 30% since 2001. But according to actuarial consultants Watson Wyatt, who use the stricter accounting rules applicable to private sector firms assessing pensions deficits, the Government actually faces a staggering shortfall of £690bn £11,000 for every person in the UK. That would boost the national debt from 34% of GDP to 85%.

What will the Government do about it?

Ultimately the key solution will be the same in both the public and the private sectors: as people live longer, they will need to work longer before drawing their pension. Politically, the issue will become an increasingly sensitive and difficult one for the Labour Government, whose traditional public sector constituency is fiercely opposed to any rise in the retirement age. Just this month, ministers avoided a dispute with public sector unions by diluting plans to cut the pensions bill. Yet unless real action is taken to reduce it, private sector workers face paying much higher taxes to fund public sector pensions, just as their own occupational schemes are winding down. That could prove an even bigger headache for politicians

Simon Wilson’s first career was in book publishing, as an economics editor at Routledge, and as a publisher of non-fiction at Random House, specialising in popular business and management books. While there, he published Customers.com, a bestselling classic of the early days of e-commerce, and The Money or Your Life: Reuniting Work and Joy, an inspirational book that helped inspire its publisher towards a post-corporate, portfolio life.

Since 2001, he has been a writer for MoneyWeek, a financial copywriter, and a long-time contributing editor at The Week. Simon also works as an actor and corporate trainer; current and past clients include investment banks, the Bank of England, the UK government, several Magic Circle law firms and all of the Big Four accountancy firms. He has a degree in languages (German and Spanish) and social and political sciences from the University of Cambridge.