The UK is facing a decade of unprecedented economic change as we adjust to a post-Covid-19 economy, a new economic context outside the European Union (EU), and the decarbonisation of the economy. And the social security system has a key role to play in the years ahead: it is part of the policy toolkit for helping individuals and the economy as a whole deal with a period of enhanced labour market change, but it also needs to address the legacy problems of slow growth in living standards and high inequality. This report considers how well the UK’s social security system for working-age households is equipped to meet these challenges, and, in particular, how well aligned it is with the country’s likely future economic and social challenges.
It is increasingly clear that our current approach to working-age social security system is not going to deliver reductions in poverty and inequality. The long-held cross-party consensus to keep core benefit entitlement for adults at low levels means that too much of the work in supporting incomes is done by the extra cost benefits. That strategy in itself has been undermined by recent cuts to the way that support is provided to those with children and to renters. But it is also unsustainable to let benefits for groups who do not qualify for the top-ups fall to near-destitution levels. If tackling the UK’s legacy of high inequality and poverty is remotely part of new economic strategy for 2020s, then policy makers will need to reconsider this approach.
- As a proportion of GDP, spending on non-pensioner welfare benefits has risen from 1.7 per cent in 1948-49, peaking at 5.7 per cent following the financial crisis, and is forecast to be 4.5 per cent of GDP in 2026-27. This long-run expansion of the welfare state is, however, not matched by a rise in the generosity of the basic level of benefits: unemployment benefit in 2022-23 will be at its lowest level in real-terms since 1990-91 and is only slightly above an estimated destitution income level of £70 per week. As a proportion of average earnings, it now stands below 14 per cent, half the level it was in the 1970s.
- Three key policy choices have notably shaped the working-age social security system. First, the erosion of the contributory principle. Second, decisions to uprate working-age benefits in line with consumer prices (at best), which means benefit rates are usually falling behind average incomes. And third, targeting support for extra costs towards lower-income families. These decisions together have created a system that provides very low amounts of basic income support, and instead provides support covering extra costs for housing, children and ill-health, favouring lower-income families with children over single adults without extra costs and higher earners.
- A direct consequence of the UK’s low, flat-rate basic level of benefits is that the amount of income insurance provided by the social security system in the event of unemployment can be very low for earners who are not deemed to have additional needs. For example, the median replacement rate for a single adult with no children is 31 per cent, and just under one-third of single people get just over 20 per cent of their in-work income if they lose their job. By contrast, the fact that that a great deal of spending in the UK goes on the means-tested extra-cost benefits means that the median replacement rate for a single parent is 69 per cent.
- A consequence of this meagre income insurance is that the system provides relatively low levels of macroeconomic support in the face of aggregate shocks – the so-called automatic stabilisers. Social security spending can play a key role in supporting the economy in a downturn, but the responsiveness of UK social security spending to the economic cycle is one of the lowest among rich countries.
- The UK’s record on living standards for those at the bottom has been terrible since around 2003-04. Income has risen just 7 per cent (measured after housing costs) for a household at the 10th percentile since then, compared to 15 per cent for someone in the middle of the income spectrum. As a result, measures of poverty that use a fixed real poverty line have seen hardly any decline since 2001-02, with absolute poverty among working-age adults barely falling (from 21 per cent in 2001-02 to 17 per cent in 2019-20). This is an exceptionally poor performance: it is normally taken for granted that a modern economy can provide increases in real-terms living standards in the medium-term.
- Our existing social security system is not well-placed to meet the scale and nature of challenges ahead. The primary challenge facing the UK economy is that the pace of economic change is likely to increase in the decade ahead as the UK adjusts to a new context post-Covid-19, outside the EU, and as we decarbonise the economy. That is likely to involve elevated levels of job change – something that our labour market has not experienced for decades – which could increase the risk of unemployment for many, highlighting the low levels of income protection provided by the UK’s social security system. Second, at the aggregate level, in an era when the role of monetary policy is limited by low interest rates, fiscal policy is likely to play a more active role in stabilising the economy during future downturns. And third, it is increasingly clear that our current approach to working-age social security system is not going to deliver reductions in poverty and inequality.