According to Office for National Statistics (ONS) figures published on 8th February 2021, between 2015 and 2018 Government pension liabilities had risen 22% to £6.4 trillion. That's an increase of £1.3 trillion in 3 years.
This has raised questions regarding the sustainability of the public pension schemes.
What's an unfunded pension? This is a pay as you go system. There is no huge, super tanker state pension fund in the background. What we pay in national insurance contributions today is paid out to pensioners as state pensions in around 6 weeks. It is literally 'hand to mouth'.
Discount rate burden: The discount rate is the rate that pension investment funds are expected to grow by in the future. This discounts back to the valuation of the pension fund liabilities i.e. the cost to buy the pension. I.e. The cost to buy a pension of £Xpa in 20 years is discounted back down using the assumed investment 'discount rate' to offer an approximate cost liability in today's terms.
The discount rate lowered to 4% pa from 5% pa in line with Eurostat requirements. This means that when valuing an organisations liability today for future pensions, if you reduced the assumed growth rate, then you need a bigger pension fund today that will grow at a lower rate in future to deliver the pension promise.
Artifically, the lowering of the assumed growth rate i.e. discount rate to 4% pa means the pension liability today is even more expensive i.e. bigger than it was. This makes it difficult for the government as the public sector pension debt is artifically higher. Expect inflation stimulus from the government to not only devalue covid-19 debt but also to boost investments returns, meaning the investment discount growth rate will likely get bigger meaning the valuation of public sector pension liabilities will fall. This will also ease pressure on private sector defined benefit pension schemes as well.
This moves in line with the UK economy at the time and so is not a major concern to government. If investment growth is lower, the liability is larger and when is investment growth is higher, the liability will be lower. The largest rise was the cost of the state pension, which has risen by £700 billion which can easily be accounted for simply by the discount rate being lowered by 1% pa.