Friday, October 01, 2010

Carrots, Sticks, Chickens And Eggs

Are you sure that's enough carrot?

Can it be true? Has IDS won his well publicised "battle with the Treasury" over welfare reform? According to the Times:

"Millions of welfare claimants will have their benefits scrapped and replaced with one “universal credit” under a ground-breaking deal secured by Iain Duncan Smith.

Housing benefit, income support, incapacity benefit and dozens of other payments are set to go after the Work and Pensions Secretary won a months-long dispute with George Osborne, the Chancellor, over whether the reforms were affordable.

The new system will carry a guarantee that anyone in work will be better off than someone on the dole. Claimants will be allowed to keep more of their benefits when they take a job or increase their hours."

Which all sounds excellent - a huge simplification and a clear message to everyone that work pays. It's precisely what we were trying to achieve with the TPA's reform proposals published a couple of months ago (see this blog). So hurrah!

Except of course, we know the Devil of Detail is still lurking out there in the shadows.

In particular, how much of this universal credit will the working poor get to keep once they start earning their own income?

As we know, a major problem with the existing system is the high rate at which they lose benefits once they start earning, with their effective marginal tax rate routinely running at 70% or even higher. It's a huge disincentive, and any sensible alternative has to cut that effective tax rate down closer to what the rest of us face. We proposed  a flat 55% in our TPA paper, leaving the poor with 45 pence of every extra pound they earn - still worse than the deal we give the richest bankers but much better than now.

According to the Times report:
"Whitehall sources said that a withdrawal rate of between 60 and 65 per cent is now being debated."
So does that mean IDS's scheme will cut the effective marginal rate down to 60-65%?

Unfortunately not. As explained in this summer's consultation paper from the DWP, a 65% withdrawal rate means that for every £1 of extra net income you earn for yourself, you lose 65 pence from your universal credit. But assuming you are earning more than the annual personal tax allowance (currently £6475), in order to generate an extra £1 of net income, you will have to earn a gross £1.47 (from which will be deducted 20% income tax, and a further 12% National Insurance).

So under the Universal Credit as apparently agreed, many of the working poor will get to keep just 35 pence out of the extra £1.47 they've earned - an effective marginal tax rate of 79.9%. Which is hardly any improvement at all on the current situation.

True, combining the confusing array of current benefits into one single benefit will certainly help people understand what's going on, and they'll know for sure that they will be better off working. Which is a big step forward.

But in terms of carrots to tempt the workless poor back to the grindstone, a near 80% tax rate is still not very juicy.

Yes, yes, we understand the problem - reducing these effective marginal tax rates costs a packet, and there is no money left.

And that's why back in the summer we proposed cutting the basic level of welfare provision for the working age poor. By cutting the official poverty line from 60% to 50% of median income (where it always used to be) we reckoned we could free up £20-£30bn pa to spend on reducing marginal tax rates. We calculated we could afford to get them down to 55%. And of course, a lower basic level of welfare provision in itself makes all paid employment relatively more attractive.

Unfortunately it sounds like DWP is still not ready to think that unthinkably.

OK, if the new consignment of carrots isn't going to be enough, what about some new sticks to go with them?

It was pretty clear in the DWP consultation paper that bigger sticks are on the way, although they masquarade under the title "personalised conditionality regime" (presumably that's someone's idea of a euphemism, even though it actually makes the whole deal sound more like Nazi Germany). Quite what the new sticks are remains unclear, but ultimately they all have to come down to "do this job or starve" - a policy formula long advocated by Tyler's Italian barber.

And then there's the tricky issue of chickens and eggs, otherwise known as "are the workless poor feckless and irresponsible because they're feckless and irresponsible, or is it because we've allowed and even encouraged them to be like that?".

That's particularly important in relation to Housing Benefit. It's all very well IDS rolling HB into his single universal credit, but what's then to stop the feckless and irresponsible poor spending the cash on drugs and online gambling? Plenty of private landlords reckon that is precisely what will happen (eg see here). And if the tenants don't pay the rent they get slung out onto the street, and then the local council has to find them expensive emergency accommodation. We end up spending even more than we were spending in the first place. Kind of idea.

Hmm. Tricky.

The universal credit is undoubtedly taking a risk here, but individual responsibility has to start somewhere. By continuing with the current system - whereby the rents of those on HB are paid direct to landlords rather than being entrusted to the welfare recipients themselves - we condemn both the recipients and taxpayers to a spiral of everlasting welfare dependency.

This particular chicken and egg link is highly corrosive and must be broken. The vast majority of HB recipients are surely quite capable of budgeting for the rent, a regular predictable outgoing. Moreover, by giving them cash rather than simply paying the rent demanded by the landlord, recipients are given a strong incentive to shop around for a better deal - something that will never happen under the current system.

So has IDS "won the battle"? From what we can see, he's been given the go-ahead for a big simplfication programme, which is good. But we still seem to be some way off making work really pay.

Update - Good article on the Detail Devil by Neil O'Brien: he runs through five key questions where the Times leak gives no detail. He suggests "the Times has stumbled on something that was going to be announced later". But of course the whole thing could simply be another of those Black Arts leaks aimed at bouncing George ahead of the cuts announcements on 20th Oct.

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