The Effect of Inflation on UK Defined Benefit Pension Schemes and How to Mitigate it

This report explores the impact of inflation on UK defined benefit pension schemes through a quantitative analysis using a software that I was trained in during my internship at Willis Towers Watson. Inflation has long been and will remain an area of focus for pension schemes because it impacts their assets and liabilities. This report focuses on the impact that inflation has on scheme liabilities and the kinds of solutions available to mitigate these effects, as well as what situations these are best applied to. The report defines the UK pension system and explores trends in UK inflation in order to justify the parameters of the analysis. It focuses on studying inflationary trends to understand what rates may be important to test and to get a general idea of how inflation in the UK behaves. The analysis produced transfer values for a sample scheme at different levels of CPI and revealed the sensitivity and impact that CPI can have on the liabilities of a scheme. The sample scheme is presented and analysed with the purpose of understanding the kind of data being plugged into the software. Many scheme specific details have been kept constant throughout the analysis in an attempt to isolate the effects of inflation. Several solutions such as caps to pension growth, commutation and pension increase exercises were explored as possible solutions to these effects. The solutions detail which situations best suit them as well as the specific benefits they have for the scheme.