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Five more things you need to know about the IDS reforms

13 January 2011

9:29 AM

13 January 2011

9:29 AM

Last November, I put together a ten-point summary of IDS’s benefit reforms – so why add five more points
now? Two reasons. First, it’s worth dwelling on what, I believe, will be one of this government’s defining achievements. Second – and far more prosaic – the Insistute for Fiscal Studies
released a report on the matter yesterday. The following points have all been harvested from that document, and represent the IFS’s judgement, so
to speak. Only one judgement among many, but one that warrants some attention. Here goes:

1. Who gains and who loses (in financial terms)? This question courses through most of the IFS report, and stands out in most of the news coverage this morning. But before we get
into all that, it’s worth pointing out that no-one will suffer from the immediate transfer to IDS’s universal credit. The wonks at the DWP have wired things so that people’s benefit levels don’t
shoot downwards when these reforms are introduced. What will happen, though, is described by the IFS thus: "Over time, as [some claimants’] benefit payments are frozen while other
people’s are uprated in line with inflation, the real value of their disposable income will inevitably be lower than under the existing system."
Hence the idea that some people will
"lose out" from these reforms.

What we get then are separate analyses for different types of benefit claimant. Here, for instance, is the IFS graph for a generic "lone parent with two children":

What this shows is that a lone parent would be better off working for less than 16 hours a week under universal credit. Between 16 and 30 hours a week, they oscillate between being better off on
universal credit and better off under the existing system. After 30 hours a week, they would be marginally better off under the existing system.

Obviously, these analyses are different for different types of people, working different hours a week – an almost impossible range to model. But the IFS has stacked up enough of them to draw
two separate conclusions:

i) In the long run, 2.5 million working-age families will gain from the introduction of Universal Credit. 1.4 million working-age families will lose out. An extra 2.5. million working-age families
will effectively see no change in their income levels.

ii) In the IFS’s words: "On average, couples with children will gain more (in cash and as a percentage of income) than couples without children, who will gain more than single adults
without children. Lone parents will, on average, lose in the long run. But there will be winners and, in the long run, losers amongst all family types."

2. How much do they stand to gain and lose? By the IFS’s calculations:

"On average, families that stand to gain will see a 7.8% increase in their disposable income, which amounts to £27.82 per week in 2014–15 for each family. In the absence of
transitional protection, the average family that loses will be worse off by 6.7% (or £26.09 per week). Overall, and ignoring transitional protection, Universal Credit will lead to a 0.3%
average increase (i.e. £1.64 per week) in income across all working-age families. With transitional protection, the average increase in income in 2014–15 will be 0.6% or £3.48
per week."

N.B. "Transitional protection" is what I refer to in the first point, above: the measures to ensure that no-one really suffers from the transition to universal credit.

3. What about those pesky decline charts?
All the usual caveats apply here, I’m afraid. These decile charts do not capture the full tenor of a policy, and policymakers should not fixate
unnecessarily upon them. But, given that the IFS has put one together for the universal credit, I thought I’d include it here. As you’ll see, in terms of both cash and percentage income, the reforms
benefit the least well-off:

4. Does universal credit get people back into work?
Really, though, all of the above misses the point. The driving purpose of the universal credit is not to raise or lower benefit levels
for some claimants. Rather, it is to help claimants back into work, where further profit – both financial and otherwise – awaits. What this means, as I explained in my ten-point
summary, is smoothing out the rate at which benefits are withdrawn from, and taxes imposed upon, claimants finding employment. As it stands, some claimants can lose 96 pence of every extra pound
earned, which is, of course, a massive disincentive to finding work in the first place. IDS’s aim is to shatter, or at least lower, these barriers.

Let’s return to that lone parent with two children. The IFS has also drawn up a graph which shows the effect on what they call the "participation tax rate": the percentage of a person’s
income lost through withdrawn benefits and higher taxes for each extra hour worked. Here it is:

That spike under the current system is the really nasty bit: 80 percent of extra income lost through withdrawn benefits and higher taxes. The universal credit erases it completely. Then, after
that, the PTR oscillates between being lower under universal credit and lower under the current system – but the difference is generally marginal. On the whole, we can count universal credit
a success for this claimant.

Once again, this lone parent is just one part of a patchwork of different claimants. And, once again, the IFS analyses some of the other squares to reach two general conclusions:

i) On the whole, universal credit will improve incentives to work right across the spectrum – but particularly at low incomes (as we saw with the lone parent above). The highest marginal
effective tax rate faced by anyone will be 76.2 percent, but most will face much lower rates than that. It does, of course, depend on the type of claimant and, crucially, the amount of hours they
are working.

ii) At current distributions, 1.7 million workers will see a fall in their marginal effective tax rate, and 1.8 million will see an increase. Don’t read too much into this, though. As in point i),
no-one will face the highest rates that exist in the current system. And the lower rates are concentrated among those on the lowest incomes – that is, those who most need to be helped back into
work. As the IFS says, "On average, Universal Credit will lower METRs for those on low earnings and raise them very slightly for those on middle earnings."

5. How much will universal credit cost? Again, I defer to the words of the IFS:

"Under our assumptions, the new system of Universal Credit will be more expensive than the existing regime by £1.7 billion per year in the long run (i.e. ignoring transitional
protection). Note that this assumes full take-up in both the existing and Universal Credit systems, and therefore does not include the cost of any increase in take-up arising from Universal
Credit. If no family lost out from the move to Universal Credit, then the cost would be £3.6 billion. But this is not a sensible estimate of the short-run cost of Universal Credit with
transitional protection, for several reasons."

It’s worth remembering, though, that what we’re getting is cheaper than the system originally proposed by IDS in a Centre for Social Justice report. That system cost more because it flattened the disincentives to work even further than the
coalition’s version does. If George Osborne has any spare money come election time – or, indeed, if the next government is sniffing around for something to do – then this could be an area
where extra spending wouldn’t go to waste.

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