A research paper by the Alliance Trusts(1) has questioned the suitability of current indices of inflation for use with retirement benefits, e g the Basic State Pension and occupational pensions. The study showed that:

. Inflation rises with age - on average in the last two years the inflation rate of the oldest households run by the over-75s was 67% higher than that of the youngest households (under 30s).

. In every month of the two years studied (2003 and 2004) homes run by people of retirement age (65+) faced higher inflation than those of working age.

. The biggest difference between the oldest and youngest groups was in April 2004 when the inflation rate for homes run by over-75s was more than 136% higher than that for homes run by under-30s. The smallest difference between the two groups' inflation was 28% in March 2003.

. The oldest households' average inflation was 36% higher than the average experienced by all households.

However this study really understates the case for a separate pensioners' index. The authors based their research on data from the Expenditure and Food Survey (EFS) and the Consumer Price Index (CPI) which both differ in many respects from the Retail Price Index (RPI) currently used to provide pensions with protection against inflation. Although the "shopping basket of goods and services" for the CPI is very similar to that of the RPI, the CPI specifically excludes Council Tax expenditure, for example.

Council Tax is of course a major item of expenditure for a great many pensioners. The average annual disposable income of households with 2 retired persons in 2002/3 was £13,120 which should be compared with that for all non-retired households (on which most of the RPI is based) of £28,511 (2). On average, Council Tax is about 6% of a retired household's disposable income compared with only 3% for the non-retired. Thus the 4.1% increase in the average Band D Council Tax of £1214 in 2004/5 (3) has a far greater impact on the "shopping basket" of the retired than the non-retired households.

Clearly there is a case to be made for a more suitable index for inflation proofing of all pensions. In fact for some years now the Office for National Statistics (ONS) has published two versions of an RPI for pensioners, one for one person and the other for two person households. Some items in the "shopping basket" for these, which are in the standard RPI, are excluded, e g, canteen meals (including state school meals) and all housing sections . The exclusion of workplace and school meals is obvious; the exclusion of the housing sections was made on the grounds that the price indicators used in the all items RPI "would not be appropriate and would overstate the price increases experienced by these pensioners as they would mostly be cushioned against some rises by rebates". The ONS says "it would be technically difficult to compile separate house price indicator items for these households". Whereas it is justifiable to exclude mortgage interest payments because 69% of the retired households are owned outright it is difficult to see the case for excluding Council Tax. Housing benefits concentrated at the lower levels of income only amount on average to about 4% of the disposable income.

The fact that a major item as housing costs is excluded means that these pensioner RPIs are in most cases lower than the normal RPI and this leads to a lower overall growth as the graph illustrates.

In fact the sample population of households used to compile all RPI data excludes pensioner households which derive at least three quarters of their total income from state pensions and benefits so it would appear that the technical difficulties referred to above by the ONS which resulted in the exclusion of the Council Tax may not be as significant as suggested. This aspect surely merits further examination by the government and the ONS.

Percentage increase in Council Tax, Average Earnings Index and Retail Prices Indices for the 10 year period 1994 - 2003 (The 2 person household Pensioners RPI follows virtually the same path as the CPI.)

References

1. "Research: Inflation and age" Alliance Trusts, August 2005

2. "The effects of taxes and benefits on household income, 2002-03" Caroline Lakin, Economic Trends 607 June 2004, Office for National Statistics

3. "Council Tax - the Facts" Office of the Deputy Prime Minister 2005.

4. The impact of council tax on older people's income - Help the Aged 2003