In 2007, the UK was home to 61.0 million people. The populations of the constituent countries of the United Kingdom is estimated as shown in the diagram below.

The UK has a growing population. It grew by 2.7 million people in the ten years to 2007 (266,100 pa), and by 1.6 million in the five years from 2002 to 2007 (330,400 a year).

The population is ageing with number of people of pensionable age (F60 and M65) greater than the number of children under 16.

With the exception of 1976, there were more births than deaths in the UK and this so-called ‘natural change’ was the main driver of population growth from the 1970s to the mid 1990s.

Since the late 1990s, however, natural change has been overtaken by net inward migration, which has become an increasingly important factor in population increase.

Since 2001, net migration has exceeded natural change births minus deaths) as a contributor to population growth and overall in the 2001-7 period it accounted for 62% of the increase in UK population.

Source: ONS

Equally significant are the changes taking place in the age structure of the population due to lower fertility rates (fewer births) and lower mortality rates (fewer deaths).

The result of these trends is that younger age groups make up a smaller share of the total population, while the proportion represented by older people is rising. This phenomenon, often described as an ‘ageing population’, carries significant economic implications for individuals, firms, and governments (see below).

A declining birth rate is one of the two factors behind this trend. Crude birth rates (the number of births per 1,000 of the population) fell from around 28 at the start of the 20^th century to 14 in the early 1970s and to just 12 in 2005.

It has, however, been rising slowly since that trough and in 2008 reached 12.9. Crude birth rates translate into a so-called ‘total fertility rate’ (TFR), which is broadly indicative of the number of children per woman. This measure of fertility also declined appreciably, and has been below two since the mid-1970s.

After stabilizing during the 1980s, there were further sharp falls during the 1990s, which left the rate below 1.7 during 2000-2002. From then there has been a modest recovery and in 2008 the TFR was only marginally below 2.0.

Source: ONS

The second important demographic change is increased longevity. Thanks to better healthcare and better diet, people are living longer.

During the course of the twentieth century, life expectancy at birth for men rose from 45 to 75 years, and for women increased from 49 to 80.

Source: ONS

The combination of lower birth rates and increased longevity is already affecting the age structure of the population.

Since 1971, the proportion of the population aged under sixteen has declined from 25% to 18.9%, while the proportion of those 60/65 and over has risen from 13% to 19%. The median age, meanwhile, is up from 34 to 39.

This process will continue, and indeed is likely to accelerate, over the next three decades. In particular, the large number of people that were born soon after the Second World War, and the cohort formed by another ‘baby boom’ in the 1960s, are moving through the age bands.

At the same time, the number of people joining the working-age population will be nowhere near as great, reflecting lower birth rates since the mid 1970s.

The effect of these changes is illustrated graphically in the chart below, based on official projections by the Government Actuary’s Department.

Source: Government Actuary’s Department

Continuing the current trends, the proportion of the population aged under 16 is projected to fall further, to 18% in 2031, while the share of older people (aged 60/65 and over) is projected to rise to 22%.

Source: Government Actuary’s Department

For firms, the key issue will be the impact on the labour market, the starting point being that the pool of working-age people will be rather smaller than it is now.

It is obvious that if employers are competing for a scarcer resource, there may well be upward pressure on wages. But there may well be further ramifications, including:

• Reduced geographical mobility among older workers, often stemming from ‘lifestage events’ such as marriage, buying a house, and having children.
• Related to the above, older workers are less likely to switch jobs voluntarily. For firms that need to scale back on staff numbers this could mean, paradoxically, an increased need to use compulsory redundancies to adjust the size of their workforce.
• A greater incidence of ill-health and disability among the workforce.
• Although some firms may benefit from a more experienced and mature staff, there is also a risk that knowledge becomes dated, and new skills and knowledge will be harder to acquire.

For some employers, the use of migrant labour from overseas will become an increasingly attractive option.

The Government has responded to employers’ concerns through schemes such as ‘Highly Skilled Migrant Programme’ and by increasing the number of work permits.

It has also allowed, with immediate effect, citizens of the ten new EU member states to work in the UK (in contrast, most of the EU-15 governments have sought to protect their own workforces by excluding those workers for a period of several years).

But high levels of public concern about immigration (both legal and illegal) mean that this is unlikely to make a big difference to the evolution of the labour market.

For governments and for individuals, the major implications of this demographic change are probably in the area of pension provision where the ageing of the population creates particular challenges for pension policy in the UK.

Among the first casualties has been the ready availability of final-salary pension schemes which until recently were offered to staff by many large employers. These pension schemes, sometimes referred to as ‘defined benefit’ (DB) schemes, provided retiring staff with a pension based on final salary at retirement.

Over recent decades, such schemes have proved highly successful as a vehicle for providing a comfortable level of pension income for many retired workers.

Faced with current demographic trends, however, a growing number of companies have concluded that such schemes are no longer affordable. It is true that other factors may have played a part.

The abolition of dividend tax credits for pension schemes (one of Chancellor Gordon Brown’s earliest ‘stealth taxes’) has not helped, nor have recent changes to accounting regulations, which have forced companies to be more explicit about potential liabilities of their pension funds.

The fundamental problem, however, is that, as life expectancy continues to rise, the likely future cost to employers running final-salary schemes is escalating rapidly.

Many companies have taken the view that continuing to underwrite these uncapped liabilities represented an unacceptable level of financial risk to the business itself.

As a result, major employers which previously operated final-salary pension schemes are gradually ceasing to do so.

Workers invited to join a company pension scheme today are much more likely to be offered what is known in pensions jargon as a ‘defined contribution’ (DC) scheme, which generally offers less generous benefits than the final-salary schemes that they have replaced.

Not only have the actuarial risks been transferred from employers to workers, but evidence suggests that employers are typically contributing less money into these schemes.

Not surprisingly, therefore, take-up of company pension schemes by younger workers is declining.

Demographic trends pose a significant challenge to the other key pillar of pension provision in the UK, the state pension.

The key point about the UK state pension system is that it is a ‘pay-as-you-go’ scheme (which some commentators have compared, perhaps a little unkindly, to unsustainable pyramid selling schemes).

Although eligibility for the basic state pension is based on National Insurance Contributions, the reality is that there is no accumulated pot of savings. The money being paid to pensioners this year is funded by the taxes paid in by current taxpayers.

In response to a lengthy inquiry by Lord (Adair) Turner, the government is proposing radical changes to the state pension scheme.

The intention is that everyone on retirement has two pensions:

• a basic pension (the same for everyone), and
• a second, earnings related, pension.

The state will fill the gap for those individuals whose employers do not offer an occupational scheme. Implementation of these proposals is still some way off.

The obvious challenge posed in this context by demographic change relates to the concept of the ‘old-age dependency ratio’.

The coming problem is that, if the system is left unchanged, a greater number of pensioners will have to be supported by a shrinking number of workers (taxpayers).

Anticipating this problem, governments have already made efforts to increase the level of private pension provision. These efforts, however, have met with little success so far, perhaps reflecting an element of distrust among the public following some high-profile ‘mis-selling’ scandals in recent years.

Another factor may be the Government’s increasing emphasis on means-tested benefits. These are superficially attractive because, it is argued, support is ‘targeted’ specifically at the very poorest households.

In practice, there is evidence that the inevitable complexity of these schemes has discouraged significant numbers of people from claiming.

A more pernicious effect has been the growing perception that, for many workers on or slightly below average incomes, saving for retirement becomes less worthwhile, because the accumulated savings can result in a lower level of pension benefit being paid.

Clearly, the 'pensions crisis' (as it has been labelled) cannot be solved overnight but there is a growing acceptance that the current systems are unlikely to be viable in their present form.

Steps to alleviate the 'pensions crisis'

There are some obvious steps that might alleviate the problems.

Higher levels of saving (either using tax incentives to encourage voluntary saving or, possibly, compulsion) and a later retirement age are the most frequently advocated.

An increase in the state retirement age has been widely mooted, and already the state retirement age for women is scheduled to rise to 65 (from 60 now) between 2010 and 2020.

This is primarily a response to EU sex-equality rulings, but demographic pressures could prompt a further increase, perhaps to 67 or 70. On the other hand, it has to be acknowledged that this could be a highly unpopular political decision.