The Chancellor is set to squeeze millions of retirees’ incomes in his spending review by pressing ahead with an inflation shake-up that will cost investors more than £100bn.
Industry experts warned that more than 10m pension incomes linked to the retail prices index (RPI) will lose out if Rishi Sunak announces a move to a lower inflation measure on Wednesday.
Investors are pricing in a very high probability of the Chancellor pushing forward with the plans despite warnings it will hit retirees.
RPI is expected to be replaced by the consumer prices index including housing costs (CPIH) - a measure of inflation that is typically far lower.
The reform will save the taxpayer money, benefit commuters and help students but also reduce annual increases in incomes from defined benefit pension schemes linked to RPI.
Industry estimates suggest the changes will cost holders of index-linked gilts - government bonds tied to inflation - between £100bn and £130bn.
“This is potentially a real loss for millions of present and future company pensioners, there is no getting away from that,” said Sir Steve Webb, former pensions minister and partner at consultancy LCP. “They will get smaller increases.”
He added: “We’re talking huge sums of money here and in terms of the pension schemes there are gainers and losers.”
A consultation was launched after the UK Statistics Authority's request to move away from the flawed RPI measure with Mr Sunak set to decide on Wednesday when the proposed changes will take effect between 2025 and 2030.
Index-linked gilts, or linkers, have shifted ahead of the decision as investors position themselves for the expected shake-up. Financial contracts tied to the future rate of RPI are pricing in a 60 basis point reduction, compared to the typical difference between RPI and CPIH of about 80 to 90 basis points, according to HSBC.
However, its analysts said investors may still be surprised by an earlier than expected implementation of the changes and warned there were likely to be "see-saw" price moves after the decision.
“Anyone with a pension that is linked to RPI will see an immediate drop in their pension pot,” warned Jos Vermeulen at Insight Investment, one of the biggest buyers of index-linked gilts.
“We estimate the total size of their drop, effectively the total transfer of assets from pension schemes to the Government, is about £100bn.”
He added: “Markets are saying it’s 80pc certain to go ahead and the only question is whether it happens in 2030 or before.”
A typical 55-year-old on a defined benefit scheme would lose more than £70,000 on the cash value of their pension, Insight has warned.
RPI is considered a flawed and outdated method of measuring inflation but many investors bought index-linked gilts expecting them to be tied to the higher rate of price rises.
Ditching RPI will save the Treasury £2bn every year in interest payments on index-linked gilts and would also rein in price increases on train tickets and student loan repayments.
Sir Steve said compensation for those losing out from the changes was unlikely but warned there was a possibility of legal action: “Some of them own very large sums so I'm sure they will have been talking to their lawyers.”
The Treasury said it will respond to the RPI consultation at the spending review.