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Population changes provide UK with unexpected boost to public finances

UK ministers will be under far less pressure to raise taxes in the coming years to pay for the costs of the country’s ageing population because of falling birth rates, declining life expectancy and rising immigration.

Although the UK population is ageing, making it more expensive for taxpayers to provide public services, fewer children and pensioners than previously expected and more immigrants will all ease the pressures on the public finances, according to Financial Times analysis of the latest official predictions on demographic trends.

It means the government will have to find just £13bn in extra taxation to fund public services each year by the end of the decade, or 0.4 per cent of national income, instead of the £69bn implied by previous estimates for population changes by the UK statistical agency.

But while the demographic trends provide a better than expected outlook for the public finances if ministers want to run a balanced current budget, they also highlight looming policy challenges. These include a need for school closures as pupil numbers fall and a possible undermining of the plan to raise the state pension age.

The FT’s calculations are based on the latest population projections from the Office for National Statistics and the Office for Budget Responsibility’s estimates of the differences in taxes paid and public expenditure received by people at each stage of their lives.

The most recent ONS population forecasts were done on the basis of fewer babies being born, shorter life expectancy and more immigrants than in previous demographic projections. Instead of predicting there will be 85.4mn people in the UK in 2080 as it did as recently as 2014, the ONS now expects there will be 71.8mn.

It means that the government will have to find £35bn in extra taxation each year to fund public services for the ageing population by 2040, rather than the £145bn implied by ONS population forecasts from 2014.

Gemma Tetlow, chief economist at the Institute for Government think-tank, said the lower birth rate and shorter life expectancy will “ease future pressures on the public purse”.

“These projections suggest the Treasury faces a smaller challenge than we thought in balancing the public finances, but are not a free pass to tax cuts,” she added.

Chancellor Rishi Sunak, who wants to repair the public finances following huge public borrowing during the coronavirus pandemic, signalled last month that he would also like to cut taxes before the next general election.

Sir Steve Webb, pensions minister in David Cameron’s coalition government, said shorter life expectancy should make the Treasury rethink its desire to raise the state pension age from 66 to 67 by 2028 and to 68 by 2039.

“Until now the government has justified an aggressive schedule of state pension age increases on the basis of a rapidly deteriorating fiscal position,” added Webb. “These figures blow that argument out of the water.’’

Official population projections depend on three key assumptions: the birth rate, life expectancy and the level of net immigration.

The birth rate projection has changed most dramatically following mounting evidence that couples born since 1990 have chosen to have babies later and to have fewer children than previous generations.

The ONS reported last month that for the first time ever, more than half of the women born in 1990 were still childless at the age of 30. It expects natural deaths to exceed births by 2025.

Couples are now predicted to have only 1.56 births for every woman, down from a figure of 1.89 that the ONS estimated in 2014.

This will have a marked effect on the number of children in the UK in the years ahead. By 2030, the ONS now expects there will be 11.6mn under 16s, down 1.5mn from its 2014 projection. The number of under 16s is expected to fall to 11.4mn by 2050, and by 2080 it will decline to 10.7mn instead of rising to 14.7mn, as predicted by the ONS in 2014.

The falling numbers will have a big effect on demand for school places. Luke Sibieta, a research fellow at the Institute for Fiscal Studies, another think-tank, said the latest ONS projections would lead to empty classrooms.

“In the end, you will need fewer schools or fewer forms within schools,” he added, saying that the benefits to the public purse would come “depending on how quickly you can close schools”.

But closures can be a difficult issue for local authorities, especially in rural areas where there are few schools. Education reforms since 2010 mean there is currently no mechanism to close academies — which have been removed from local authority control — purely because pupil numbers are low, according to Sam Freedman, a consultant and former adviser to Michael Gove when he was education secretary.

He said only 20 per cent of secondary schools and 60 per cent of primaries are maintained by local authorities. “[Closing academies] hasn’t been a problem to date but it will be a problem,” he added. “Local authorities have the statutory duty [to plan for school places], but not the necessary powers.”

Meanwhile, improvements to life expectancy, which determine how long taxpayers need to fund pensions, have stalled in the UK, posing a major challenge for policymakers.

The ONS now expects male life expectancy in 25 years to be 82.2 years: in 2014 it was projected to be 84.1. The estimate of female life expectancy over the same period has fallen from 86.9 years to 85.3.

With fewer children and pensioners to support, the pressures on the public finances will ease and this is further helped by the latest projections on immigration.

In its 2016 population forecasts, the ONS thought there would be a net 165,000 immigrants a year settling in the UK, but even with a sharp decline in EU nationals coming to Britain after the Brexit referendum, the numbers stayed high until the coronavirus pandemic.

The latest ONS assumption is that net migration will be 205,000 a year — far above Cameron’s target of reducing it to the tens of thousands.

Madeleine Sumption, director of Oxford university’s migration observatory, said the ONS figure looked “broadly sensible”. “This is close to the medium-term trend,” she added, although she cautioned the figure was subject to a lot of uncertainty.

Jonathan Portes, professor at King’s College London, agreed the ONS number looked about right.

“The end of [EU] free movement [of people], a relatively liberal new migration regime and relaxed controls on Hong Kong migrants, would suggest net migration would be in a range of between 100,000 and 300,000 a year,” he said.

Higher immigration will help to pay for the UK’s ageing population, but the boost to the public finances will begin to wane later this century as those coming to Britain from overseas get older and the lower level of births result in fewer working age people to pay for pensions.

Webb, partner at consultants Lane Clark & Peacock, said the FT’s calculations still highlighted additional costs of the ageing population, but there was more breathing space for policymakers to respond gradually.

“Given the volatility of these long-term spending estimates, public policy needs to be calm and strategic rather than making knee-jerk responses to overblown fears of a ‘demographic time-bomb’,” he added.

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