Does the Welfare Bill really make work pay?

There is much to be said in favour of the coalition’s welfare reform bill. Perhaps its main achievement is that it greatly diminishes the uncertainty and risk associated both with entering the labour market and progressing in it. In the current system, both decisions represent a gamble. Taking up a job effectively means replacing a secure form of income with an insecure one. If the job does not last, people have to go through the lengthy benefit application process again. Also, once somebody works for a few hours and is faced with the decision to add some more, the variability of effective marginal tax rates can make it difficult to predict what the payoff will be. Uncertainty promotes inertia: in a minefield, the safest bet is not to move. The Universal Credit (UC), with its single application process and single taper rate, will end this absurdity. Two cheers for that.

However, when the government presents the Welfare Bill as a massive boost to work incentives, this should be taken with a pinch – in fact, a big ladle – of salt. What the UC really means, in terms of work incentives, is this: in the present system, there is a gap between out-of-work benefits and in-work benefits. People who work for a small number of hours (what ‘small’ means depends on the household type) usually see the former tapered away pound per pound, but do not yet qualify for the latter. So there is no point entering the labour market unless you jump over that gap in a single leap. The UC will close this gap, because it will end the distinction between out-of-work and in-work benefits. But for people who already do qualify for in-work benefits in the present system, there will be no dramatic effect on work incentives. Currently, tax credit recipients typically lose 71p for every extra £1 of gross earnings, courtesy of income tax, NIC and tax credit withdrawal. In the new system, they will lose 76p for every extra £1 of gross earnings: 20p in income tax, 12p in NIC, and 44p in UC withdrawal.

So the government’s claim that it will always pay to work under the Universal Credit has to be qualified: it will always pay to work for a small number of hours. But it will not pay a lot to move onwards from there. Since Mr Duncan Smith seems to be most concerned with welfare recipients who have not spent a day in paid work for many years, this is fair enough. But if the ultimate aim is a situation in which most working-age households earn most of their own income during most of the time, then the Welfare Bill alone will not get us there.

While a great improvement, the welfare reform bill is not a match for the workfare-reforms in Wisconsin, where welfare rolls fell by 80% within five years. A workload not too far away from a full-time job was expected from welfare claimants – even from single parents with young children. It must have been a tough transition for many. But once the reforms had taken off, surveys showed that a majority of the previous welfare recipients judged the changes favourably.

Kristian - the reason why I asked you to write this post was because I spoke at the State of the Economy conference and used exactly your figures for withdrawal rates etc. I was then confused because I saw the government used 65%. Any idea how this is reconciled? Of course, the rise in VAT also means that every £1 of take-home pay buys less.
Philip, 65% is the taper rate of the Universal Credit, but it is not the effective marginal tax rate, because it refers to net income. So while there is indeed one single taper rate, there is more than one EMTR: The latter jumps from 65% to 76% as soon as income crosses the Personal Allowance. Also, we don't know yet what will happen to Council Tax Benefit. If CTB is also tapered in some way, then there will be up to three EMTRs with at least one of them being above 76%.
mmm, a little insincere it would appear as far as the government presentation of this is concerned (or at least the press presentation of the government presentation)
Fair point, but you cant heap all the blame on IDS. He himself was stumblingly blindingly towards a proper Citizens Income and his civil servants did their best to hobble him. "But it will not pay a lot to move onwards from there." Aha, don't forget WTC - it motivates people to work just over 16 hours or just over 30 but not to move on from there either. The 65% claim is of course nonsense, the true rate as you say is about 81% once you take tax, taper and C Tax Benefit into account, and even more than that if you include Employer's NIC and VAT. But lets not forget that the marginal tax rate for many households is about 80% all the way up to average income (i.e. if you compare net income after tax and housing costs etc. of family with no parent in work and net income after tax and housing costs where one parent earns £25,000, the latter family are in fact only about £100 a week better off, DWP Tax Benefit Model Tables confirm this.
Thank you Kristian for this excellent critique. That work should pay for those currently entrenched in economic dependency is unimpeachable. Why though should we have to wait until 2013 for the civil service to deliver The Welfare Reform Bill? I have Job Club members who could find short term placements such as holiday cover for a week or two but if they work for more than 15 hrs 59 mins and 59 seconds in a week they have to come off benefits and then need to reapply. Sure they are 'fast tracked' back in but this must be mind numbingly cumbersome for the DWP to administer, often causes hardship to the claimant through delay to reinstate and thus creates an unnecessary barrier for a person willing to work. Surely such an obvious flaw can be resolved sooner than 2013? Chris Neal GB Job Clubs
Unemployment fell in Wisconsin not because the unemployed found work but because, once they lost their entitlement to welfare, they were "displaced", i.e., moved to another state in America where they had a right to welfare or could find jobs. A similar system here would forcibly drive citizens out of the country or into destitution since there would be nowhere for them to move to within out borders that treated welfare claimants more humanely. You really need to look into things properly before you jump on the bandwagon and support them.

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