Britain's Low Wage Economy Is Killing The Government's Austerity Plan
According to a research note released by the independent Institute for Fiscal Studies on Monday, government changes to benefits and tax credits were expected to deliver £19 billion of cost savings compared to forecasts without those changes. In reality, however, real spending "will be only £2.5 billion lower in 2014-2015 than it was in 2010-2011".
Some £5 billion of this difference can be explained by higher spending on pensioner benefits, according to the IFS, with the rising cost of the state pension accounting for all of the increase. This part was expected by the government, which had protected pension spending under its so-called "triple-lock" system whereby pensions are guaranteed to rise by whichever of inflation, wages or 2.5% is the higher.
That all but guarantees real terms increases in pensions spending.
However, the big surprises have been large overspends in both housing benefits and disability living allowance. Despite announced cuts of over £2 billion, the housing benefit bill will be around £1 billion higher in 2014-2015 from its 2010-2011 level (that is, £3 billion more than expected).
And here's the key line: "the private rented sector has grown faster than expected, private rents have grown faster than expected, and earnings have grown more slowly than expected - all of which increase housing benefit spending".
The conclusions follow similar warnings from the government's budget watchdog, the Office for Budget Responsibility, last month. Here's the key chart:
Why has this happened? Well one of the key reasons wage growth has remained restrained is the growth of self-employment over the crisis. As the OBR explains, "it is possible that this eligibility, coupled with the tougher jobseeker's allowance sanctions regime introduced in 2012, may have encouraged people to declare themselves self-employed on low income rather than unemployed." That is, much of this "employment" may have been on paper only.
OBRShare of self-employment among UK workers.
Although more recently this trend has been reversing with strong rises in the numbers of people in full-time work, this growth has also been skewed towards low-skilled, low wage jobs:
And, as the Bank of England point out in its latest Inflation Report, increases in the supply of workers has more that met rises in demand keeping wages for low skilled work low.
So what is the money being spent on? Increased housing benefit is in effect a subsidy for the private rental sector rather than a cash benefit for the nominal recipient. The failure of the government to increase the social housing stock to meet higher demand coupled with weak wage growth for the lowest paid has effectively forced the state to increase this subsidy to private landlords.
Moreover, slower-than-expected wage growth also increases in-work benefits such as tax credits. Despite £4.6 billion in announced cuts is only expected to be £3 billion lower than its 2010-2011 level.
This is a key lesson for the political parties as they formulate their budget plans for the next parliament - "the rapid growth of housing benefit and tax credits over the last couple of decades means that slow earnings growth now has the potential to push up spending". That is, focusing on how to spread the benefits of growth may not just be a matter of fairness but one of budgetary necessity.