The UK Government is spinning a yarn


At Prime Minister's Questions the other day, Jeremy Corbyn produced a case study of a working single mother who would suffer a substantial real fall in income due to tax credit cuts despite the NLW and tax threshold rise. In response, David Cameron claimed the new National Living Wage and tax threshold rises would mean that working people on low incomes would be better off by 2020. Who is right?

The National Living Wage will improve earned income for a high proportion of families. The Resolution Foundation estimated that:
  • 4.5 million employees will see their hourly wage rise as a result of introduction of the NLW in 2016. Of those, 1.9 million earning less than the NLW are set to be brought up to at least that level, with a further 2.6 million gaining from spillovers. 
  • By 2020, a total of 6 million employees – 23 per cent of all employees in Britain – are likely to have received some increase in their pay as a result, with 3.2 million being brought up to at least the NLW and another 2.8 million moved onto higher wages through spillovers.
  • By 2020, the average gross gain to employees directly benefiting is expected be £1,210 while for those who only benefit from spillovers, it is estimated to be £240 (in 2016 prices). Clearly however, the precise size of the pay rises experienced by individuals will vary depending on their previous pay levels and the hours they work.
The NLW is expected particularly to benefit women (many of them part-timers), young people aged 25-30, and over-65s who are still working.

The distribution of the NLW looks pretty good, too, with over 50% going to workers in the bottom half of the income distribution.

But for a significant proportion of people, particularly those with children, earned income is topped up with benefits. So what is the effect of the NLW on total income?

Here's the Resolution Foundation's chart showing the effect of the NLW on net household incomes across the income distribution:



Clearly, the NLW most benefits those around the lower middle of the earnings distribution.  The greatest improvement in net income is experienced by those in the 4th decile. But the improvement is tiny, only half a percentage point. And for other deciles the improvement is much less. The effect of the NLW on household net income is distinctly underwhelming.

Although those in the 3rd and 4th deciles benefit most from the NLW, there is a substantial wedge between the earned income gain from the NLW and the effect on net income. As the Resolution Foundation explains, this is because for these households, what they gain from the NLW is to a considerable extent wiped out by taxation (my emphasis):
The requirement to pay tax and National Insurance (NI) on these additional earnings explains part of this shift. In addition, members of this middle group of households are more likely than others to be eligible for Universal Credit (UC). Crucially, entitlement to UC reduces as earnings increase – for each pound earned above around £5,000 a year by a household, 65 pence of UC entitlement is deducted. This means a worker gaining the full £1.10 hourly boost implied by a NLW of £9.35 in 2020 (using the OBR projection) would only be 39p an hour better off, falling to 26p if they also pay tax and NI. 
Overall, only 60 per cent of the gross wage gains are translated into net income gains with the situation more acute for those in the lower-middle part of the distribution; only around half (53 per cent) of the £220 gross gain in decile 4 finds its way through to household incomes.[22] As such, the share of the total gain flowing to the bottom half of households falls from 52 per cent when calculated on a gross basis to 45 per cent on a net basis. 
So workers in the 3rd and 4th deciles - hardly the richest people in society - may experience marginal tax rates as high as 76.4% as a direct consequence of the NLW. Lovely.

But even though that is a shockingly high marginal tax rate, it isn't a fall in income. It's an increase, though a small one. Single parents will keep less of the NLW gains than any other group, because they are more likely to be on Universal Credit. But even single parents won't suffer marginal tax rates of over 100%. So why is Jeremy Corbyn's single mother apparently facing a fall in income?

The problem is not the NLW itself, it is the government's measures to reduce working-age benefits by a total of £13bn by 2020. The most significant of these measures are:
  • Freezing working age benefits for four years from April 2016; 
  • Reducing the point at which tax credits or UC entitlements start to be reduced as earnings rise (the "taper");
  • Removing entitlement to the family element for new claims or new families entitled to UC or tax credits from April 2017;
  • Limiting support from Child Tax Credit or the child element of UC to two children for new claims or births from April 2017, meaning that families with three or more children only receive support for two.
The message is clear. If you are poor, don't have children.

In his Budget speech, the Chancellor claimed that “taken together with all the welfare savings and the tax cuts in this Budget, it means that a typical family where someone is working full time on the minimum wage will be better off.” But the Resolution Foundation disputes this:
However, with the NLW expected to increase the nationwide wage bill by £4.5 billion in 2020, and only around 60 per cent of this gain expected to translate to gains in income, the policy clearly cannot fully offset the losses to income from the £13 billion cuts to welfare.  
In short, the Chancellor's figures do not add up. Again.

The extent of the shortfall for the poorest in society is graphically illustrated by this chart:



There are two things that stand out from this chart. The first is how regressive the Budget changes are. The welfare cuts fall disproportionately on the poorest in society, and the NLW does not offset them. Wages make up very little of the income of those in the 1st decile, so increasing the NLW has little or no effect on them, as the chart shows. These people therefore face real income cuts without the prospect of compensatory wage rises.

But Jeremy Corbyn's single mother is working, apparently. We don't know what her circumstances are, but it seems unlikely that she is in the very poorest group. However, the chart shows that there is a net income loss from the Budget changes for families in the bottom half of the income distribution, while those in the top half - except for the very rich - experience a net gain because they benefit from the NLW. So Jeremy's single mother could be in the 2nd or 3rd decile and still face a significant cut in her net income.

And this brings me to the BBC Question Time audience member who challenged Amber Rudd over cuts to tax credits. BBC News reported that Michelle Dorrell is a self-employed beautician running a nail bar from her home. Clearly she's no slacker. She's a hard-working woman trying to do her best to keep her family through her own efforts. The sort of person, in fact, whom the Conservatives said they wanted to help.

It's worth noting that as Ms. Dorrell is self-employed, the NLW will not apply to her, and it is unlikely that she would be able to increase prices to NLW level. She is therefore among those facing real cuts in income, due to tax credit changes, with little prospect of earnings increase to compensate. , No doubt there will be those who say that running a nail bar isn't really work and she should get a proper job mopping floors.

Self-employment incomes have fallen by 22% since 2008-9: median incomes for the self-employed are now half those of the employed, and their take-up of tax credits is much higher. One in seven people is self employed: their exclusion from national statistics is thus a serious distortion. The invisibility of the self employed in policy making is a national disgrace.

The response of David Cameron's adviser to Ms. Dorrell is frankly incredible:
The point the prime minister and government is trying to get across is that it’s important you see the changes we are making in tax credits are part of an overall package of changes, designed to ensure we push wages up.”
She's being fobbed off. Raising tax credits might push wages down, but there is absolutely no reason to assume the effect is symmetrical. Employers like wages to fall. They aren't nearly so keen on increasing them. The NLW will increase them, a bit, but that has absolutely nothing to do with tax credit cuts.

In fact this is entirely political spin. The changes are about reducing the welfare bill, not raising wages.

There was always a very large hole in the Conservatives' spending plans, which would inevitably have to be filled with cuts to in-work benefits. But despite this, the Conservatives somehow managed to persuade the working poor that in-work benefits were not at risk.

Like Chris Dillow, I suspect this was primarily managed through subtle redefinition of "welfare" to mean out-of-work benefits. Working people on low incomes don't see tax credits as "welfare". Welfare is what scroungers get, not hard-working people. So the Conservatives could trumpet "welfare" cuts while still promising to support "hard-working families".

The strategy worked. People like Michelle Dorrell believed them. It never occurred to her that in voting Conservative, she was voting for a party that would slash her own income. Turkeys do vote for Christmas, if they are led to believe that people eat goose for Christmas dinner. 

So Jeremy Corbyn was right. The single mother in his case study does indeed face real cuts to her income. As does Ms. Dorrell. She will pay a high price for her gullibility.

Comments

  1. "Michelle Dorrell is a self-employed beautician running a nail bar from her home. Clearly she's no slacker. She's a hard-working woman trying to do her best to keep her family through her own efforts."

    No, she isn't. I asked my wife, because she is (almost) doing exactly the same thing, and I do her books. She earns, on her own figures £150 a week,

    This is after costs profit, but in this particular job, it's almost all profit ; no business rates, no premises etc. The only cost is the raw materials - gel nail solution and so on which she says the profits are spent on (that an advertising, but the website costs maybe £5/month tops)

    My wife reckons this is about 6-7 hours work a week, depends on what treatments are popular.

    I'm not damning her for trying at all, but she isn't "working hard" in any plausible usage of the word.

    I also would point out its a distinct possibility she's a plant, or not being entirely honest about being a "Conservative voter originally". These stories are often spun ; like the family who were evicted in Colchester to loud complaints, whose daughter kept a blog of her (extensive) travelling with her family.

    ReplyDelete
    Replies
    1. One point I've seen alluded to elsewhere; presumably someone can still claim tax credits even if their self-employment has very little business. Is there any evidence that this is being used to massage the unemployment figures? i.e Get someone to go 'self employed' and then the jobcentre is better off because they have someone off their books, and the newly self-employed is happier as they claim money in tax credits.

      On this point; The Mirror is reporting that Ms Dorrell states that her business currently earns no profits at all and she has been running it since 2013.

      Delete
  2. Is it the government spinning a yarn or the audience member, who reportedly will not actually be worse off(I appreciate it is the Telegraph so take with as much salt as you desire). http://www.telegraph.co.uk/news/politics/conservative/11937376/Tory-voter-who-confronted-minister-over-tax-credit-cuts-may-not-be-affected-by-reforms.html Personally I'm supportive of reducing benefits to those employed; employers should not be subsidised this way. Martin.

    ReplyDelete
    Replies
    1. The Telegraph piece is entirely speculation. And the embedded threat of an HMRC investigation is just nasty.

      Do you know what "self employed" means? There is no "subsidy". She does not have an employer.

      Delete
    2. If she's really making no money from her business at all, then she is very likely to fall foul of the new rules on gainful self employment and working tax credit.

      http://www.revenuebenefits.org.uk/tax-credits/guidance/how-do-tax-credits-work/self-employed/

      These rules are similar to the obstacles for the self-employed built into universal credit DWP has long felt that some people were quitting JSA (and its extraordinarily punitive sanctions regime) and claiming WTC instead. DWP/HMRC may also intend to apply these new rules to working tax credit claims prior to switching them to universal credit - otherwise there might be transitional protection (the government has repeatedly said that people moved to universal credit without a change of circumstance will not see a cut in cash benefit - that makes it very important to cut those benefits before the transfer).

      Delete
  3. Interesting that the only comments on this piece so far are both concerned only with discrediting Michelle Dorrell, rather than discussing the significant evidence I provide that the Government's plans will harm the working poor. Whether or not Ms Dorrell is affected is frankly irrelevant. Even if she is not, there are thousands who will be.

    ReplyDelete
    Replies
    1. Similarly interesting, that when large corporations try to minimise profits (I could think of Facebook's practically zero UK profit and consequently negligible tax payment) it is considered good business practice--albeit maybe ethically questionable.

      But when a self employed person tries to optimise their business model, i.e. reduce profit and tax liability, and optimise tax benefits, the immediate conclusion is that it's a failing, unviable business. Possibly different standards at play here? Or are we suggesting

      Delete
  4. Because she was cited in your concluding paragraphs? In her case isn't it taxpayer bailout of an insolvent business? But with respect to benefits how do we rank worldwide with these changes, are we still high up the list in support given? Martin

    ReplyDelete
  5. I'm sure all these policies to reduce employment benefits sound great and the right thing to do in party planning discussions by people who've never had to depend on a low wage and support from benefits.
    It would be quite simple to stagger the changes so NLW kicked in *before* a gradual phasing out of tax credits (still the issue of self employment of course)
    But... the deficit...

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  6. If Michelle Dorrell is self-employed and not making a profit it is true that she, and others in the same situation, will not be affected by the cut in the income threshold of working tax credit and the increase in taper.

    But, when Universal Credit eventually replaces tax credits for self-employed (UC implementation is so bad it is a joke) she will be hit very hard. IF YOU ARE SELF EMPLOYED, UNIVERSAL CREDIT ASSUMES YOU ARE EARNING A MINIMUM OF £957 PER MONTH. Universal Credit is them worked out on the higher of your actual earnings or the minimum assumed income.

    See https://www.moneyadviceservice.org.uk/en/articles/universal-credit-for-the-self-employed

    ReplyDelete
  7. I don't think people appreciate just how little benefit many families will see from the NLW, even in the absence of further cuts to tax credits - or how much it benefits the chancellor.


    Take a couple with two young children, one partner working 40 hours on minimum wage They pay
    £150/week rent and £30/week council tax.

    Their gross earnings are £272. Because of their low income, they receive tax credits, child benefit and partial housing benefit. They also pay their council tax at a reduced rate.

    The minimum wage goes up by £1/ph.

    Gross earnings rise by £40.

    This is reduced by:
    £12.80 in tax and NI (20%+12%
    £16.40 in reduced tax credits (41% taper)
    £7.02 in reduced housing benefit (65% taper on income post Tax/NI/TC)
    £2.16 in reduced council tax support (20% taper on income post Tax/NI/TC)

    This leaves the family £1.62 per week better off. The exchequer, on the other hand, benefits
    by £43.90, including the additional NI paid by the employer.

    See https://www.lampfrey.net/nlw2a2c.html for a detailed calculation.

    Tim

    ReplyDelete
  8. The Living Wage takes into account tax credits. So Osbourne is a nasty little fuck for introducing a "Living Wage" which its not.
    And this is truely awful for self employed people.
    Why did you vote them back in Britain!

    ReplyDelete
  9. Osborne appears to be targeting voter groups to me - pensioners and the young single living at home still with disposable cash. One group hit is the contractor through a limited company whose admittedly very favourable tax treatment is hit quite hard by dividend tax changes. Whilst I can accept that for me as I said it was ludicrous this will equally hit small businesses where income is taken as dividends?

    In the budget without comment 1.3Bn was handed to Oil Companies! My 1 man company paid 3x Corporation Tax of Facebook which hardly smacks of a country desperate for tax revenue. Point being austerity is a narrative nothing more. I am sure we will get a surplus if economy grows enough but it's hardly a real aim - even if we ignore all the off balance sheet stuff. i.e. can most of the electorate name the deficit to the nearest 10Bn? I went 80 Bn and it was £107.7bn - in 2020 it will not matter what the real deficit is to the electorate.

    I find it hard to see what is driving policy besides paying for voters and feeding people a faux narrative of austerity when clearly Chancellor actually sees no need for it. If someone can explain it and what else it is trying to do I would be grateful as it seems sorta reckless at present if not downright nasty for no positive end.

    ReplyDelete

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