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A pound of state benefits has less impact than a pound from independent earnings

13 June 2014

10:08 AM

13 June 2014

10:08 AM

The Joseph Rowntree Foundation (JRF)  published a paper on Wednesday comparing a range of policies to help low paid workers. Perhaps unsurprisingly, they conclude that increasing benefits is the best option.

Like so much analysis on poverty, the report suffers from policy myopia in two respects. First, it looks only at cash benefits and direct taxes, ignoring the policy choices which set the constraints of the problem. Secondly, wider implications of the options are ignored.

Cost of living

The report uses a basket of goods which determines a ‘minimum income standard’. But no attention is paid to policies which increase the cost of goods in that basket, save for childcare. And the only ‘solution’ offered is to increase subsidies. No mention of any structural reform to make childcare more affordable to counter the recent rising regulatory costs.

Similarly, no mention of policies that demand consumers buy energy from expensive sources. Nor the restrictive planning policies which are pushing up housing costs. And the EU’s Common Agricultural Policy which prohibits consumers from buying cheap food from farmers across the world, ramping up food prices, was also absent. While the report did consider (and dismiss) the case for cutting VAT, it offered no analysis for ‘sin taxes’, stating that only modest quantities of alcohol and fuel are deemed necessary for a minimum standard of living, and no tobacco at all. Maybe, but the evidence shows that sin taxes are the most regressive of all in terms of actual expenditure.

Higher earnings

Another area almost completely ignored by the report is policies which depress wage levels: taxes, employment law and tax credits.
Economists don’t agree about much but an almost complete consensus exists on the contention that employer’s National Insurance contributions are ultimately paid for by employees in the form of lower wages. So the dual income low paid couple in the appendix’s table who earn £670 a week between them would earn £50 more without ’employer’s’ National Insurance. This compares to the £19.84 shortfall of their disposable income from the JRF’s minimum income standard.

Costly employment and pension regulations also feed through to lower wages. And because tax credits reduce the value of a pay increase to the employee, they reduce the incentive for employees to increase their earnings, leading to lower wages. As with employment law measures, tax credits have their upside. But their effects on wage levels cannot be ignored.

Wider objectives

Perhaps the deepest flaw is the report’s narrowness. The only benefit of an increase in the personal allowance registered by the report is the effect it has on people earning under their minimum income standard. But the implicit assumption that reducing the tax burden on anyone else has no benefit is patently absurd. A similar flaw distorts comments on the relative merits of raising National Insurance thresholds compared to Income Tax:

‘The main difference is that, whereas about 2 million additional people between the present tax and national insurance thresholds would gain, pensioners would not since they do not pay contributions.’

Yes, but what about the injustice of higher taxes on poor people just because they are under 65, the additional hardship for those unlucky enough to have to pay it, or to the simplification benefits of reform?

Another neglected area is the extent to which the policies support independence. A pound of state benefits does not have the same impact as a pound from independent earnings. As far as possible, a given level of disposable income should be achieved with the highest proportion of independent earnings. This could also reduce the extent of the monitoring and compliance regime required to transfer cash from taxpayers to benefit claimants – in many cases the same people. Giving someone money with one hand while taking it away with the other doesn’t help. Much better to let people keep more of their own money in the first place.

A final blind-spot is the silence about the wider economic impact of the policy options being discussed. A substantial body of evidence demonstrates that higher levels of government spending and taxation are associated with markedly slower economic growth. It’s a pity that none of these factors were considered. With such a narrow remit that ignores so many of the implications of the policy options in question, the JRF’s report sadly doesn’t add much to the debate.

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