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Replacement Rates in Pensim2. Stewart Butler Pensim2 Team Model Development Unit Department for Work and Pensions. Introduction. Background: UK Pension System What are replacement rates? Previous UK work What Pensim2 offers us What matters? Income Relativity Adequacy

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Replacement Rates in Pensim2

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Replacement rates in pensim2

Replacement Rates in Pensim2

Stewart Butler

Pensim2 Team

Model Development Unit

Department for Work and Pensions



  • Background: UK Pension System

  • What are replacement rates?

  • Previous UK work

  • What Pensim2 offers us

  • What matters?

    • Income

    • Relativity

    • Adequacy

  • Features specific to Pensim2 analysis

  • Summary

Uk pension system

UK Pension System

Replacement rates

Replacement Rates

Replacement rate = Retirement Income

Work Income


If replacement rate < threshold then undersaving = 1

Previous uk work

Previous UK work

  • Pensions Commission 2004/5

    Assumed everyone started contributing at age 30 and continued until retirement

  • Institute for Fiscal Studies 2005

    Survey dataset of individuals aged 50

    Limiting assumptions on how people continued in work and contributed to pension schemes

What pensim2 offers

What Pensim2 offers…

  • Has a representative sample of the UK population fusing both administrative and survey data

  • Rich set of assumptions and estimations

  • Simulation of life courses until 2100

Pensim2 methodology

2 Person Benefit Unit:

∑ (Pension1, Pension)

∑ (Pay1, Pay2)

1 Person Benefit Unit:



Pensim2 Methodology

Benefit Unit


Individual Dataset

25<=Age< State Pension Age



Benefit Unit Dataset

With Person Identifiers Appended



What matters income

What Matters? Income

  • But what income?

    • Average lifetime income

    • Last year of work income

    • ‘Best of’ last X years

    • Average of ‘peak’ earning years

What matters income1

What Matters? Income

Here we will chart the corresponding ‘undersavers’

Thresholds (of gross income):

80% Poorest


67% Median Income


50% Richest

What matters income2

What Matters? Income

And not just working age income….

What matters pension income

What Matters? (Pension) Income

And the corresponding number of undersavers….

What matters relativity


Threshold adjusted for inflation:


Threshold adjusted for earnings:

Hmm, I think I’d like a new car for my retirement…

My son’s car

My old car

What Matters? Relativity

Results are presented relative to the number of undersavers under the price threshold in 2006

Price Indexation

Earnings Indexation

What matters relativity1

Equates to a difference in undersavers of around 16% in 2040

What Matters? Relativity

  • The Effect of Spreads in Economic Assumptions

What matters adequacy

What Matters? Adequacy

  • How do we define what is an adequate retirement income?

Features specific to pensim2 analysis

Features specific to Pensim2 analysis

  • Units of Observation

    • We are looking at a point in time estimation but using modelled outputs from future periods

  • Non-Pensions Wealth

    • At present we do not include wealth in Pensim2 modelling

      • Likely to bias results especially further up the income scale

    • We are working wealth into our analysis by applying a distribution estimated from a survey dataset

    • Planned wealth module in Pensim2 to incorporate accumulation and decumulation of wealth



  • Pensim2 offers us the ability to comprehensively model replacement rates, using a much richer set of assumptions than was previously available. Important when looking at pensions policy with long time horizons.

  • Especially important to define the assumptions and definitions for analysis before you start to avoid trying to pick a number that you like best.

  • Can be difficult to unpick the effect of individual assumptions due to number of life events estimated and the interaction between these.



Stewart Butler

Pensim2 Team

Model Development Unit, Department for Work and Pensions, UK

+44 207340 4097



  • Pensions: Challenges and Choices, The First Report of the Pensions Commission, 2004

  • A New Pension Settlement for the Twenty-First Century, The Second Report of the Pensions Commission, 2005

  • Prepared for Retirement? The Adequacy and Distribution of Retirement Resources in England, Banks et al., Institute for Fiscal Studies, 2005

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