First posted on February 2, 2013 by alittleecon
Welfare cuts won’t work, they’ll just make things worse
Cuts to welfare spending seem to be in the headlines daily nowadays. Every time a bad bit of economic news is announced (which is often), the prospect of yet more welfare cuts seems to raise its ugly head. Just this week, following the terrible Q4 growth figures, there was a story in the Independent about certain ministers who are pushing for further cuts to welfare.
There are a number of issues around welfare which are regularly discussed. These include ‘fairness’ and ‘making work pay’. A lot has been written on both sides of the arguments on this, so I’m going to focus on the likely economic impact of welfare cuts.
Now a key argument on welfare cuts is that the deficit needs to come down and everyone needs to contribute (we’re all in this together remember). Putting aside the fact that I don’t think we should try to reduce the deficit at the expense of jobs or living standards, I want to look at whether the claim that welfare cuts help reduce the deficit stand up to scrutiny.
A lot of people would say that the purpose of working-age welfare benefits is to provide a subsistence level of income for those who are either unable to find work, or unable to work altogether due to ill health or disability. While that’s true, welfare payments also serve a very important macroeconomic function. They act as an ‘automatic stabiliser’.
What are automatic stabilisers? From Wikipedia:
“In macroeconomics, automatic stabilizers describes how modern government budget policies, particularly income taxes and welfare spending, act to dampen fluctuations in real GDP.”
In other words, in a boom, the government collects more taxes and pays out less in benefits which helps put the brakes on to prevent the economy from overheating. Conversely, in a slump (like the one we’re in now), less tax is collected and welfare payments soar as people lose their jobs and businesses make less sales. This acts to prevent the economy going into free-fall. The stronger the automatic stabilisers, the shallower are the slumps and the quicker are the recoveries.
In response to criticism of his economic policies, George Osborne has claimed his plan is flexible because he has “been prepared to let the automatic stabilisers operate..”. I’m not sure what he means by that. What would not letting them operate look like? I suppose you could stop paying benefits to new claimants, or make people pay the same rate of tax even when their incomes fall, but no sane person would advocate that. So in Osborne’s world, ‘flexibility’ seems to mean not taking complete leave of your senses.
In any case, the Government are not letting the automatic stabilisers operate, they are trying to weaken them all the time. Bedroom taxes, Atos reassessments, cuts to council tax benefits, these all weaken the automatic stabilisers. What does this mean? It means that income will be taken out of the pockets of the poorest (who by the way spend most of their income), who then spend less in local businesses. These businesses then make less sales, leading to the government collecting less in tax, while the businesses might decide they don’t longer need as many staff, or even go bust.
Spending is a circuit. It goes round and round the system, not stopping after its first use. The government thinks by cutting the amount it pays benefit claimants by x pounds, it will save x pounds. It’s easy to see the flaw in this logic though. If you give someone £100 less in benefits, that’s £100 less going into the economy. Someone else has lost £100 in income (unless that person’s taxes are cut by the same amount, but the Government are not proposing to cut taxes). The actual saving for the Government will not be £100, but a figure much much smaller. It could even be negative if the cuts further depress employment. The welfare bill could actually go up.
This, in a nutshell then is why cutting spending by x pounds is only cutting the deficit by (-)y pounds. This confuses all sorts of people who are starting to claim austerity is not happening because the deficit is rising.
What the cuts to welfare also mean is that the next time there is a crisis, it will be much deeper, because our new, weakened automatic stabilisers are not strong enough to stop the slide and spark the recovery.
There’s actually a strong case for strengthening the automatic stabilisers. You could do this on the tax side by perhaps linking national insurance rates to the unemployment rate, or on the welfare side by guaranteeing jobs for those who are made redundant following an economic slump.
Cutting welfare in a slump is a very dumb thing to try to do. It won’t work and will make things worse. They will be disastrous on an individual level for many families bearing the brunt of these cuts. With jobs not being created in sufficient number (no matter what the Government tries to say), there’s no possible way the cuts can act as an ‘incentive to work’, and as we’ve just seen, in macroeconomic terms, weakening automatic stabilisers in a slump is an awful idea. Dumb, dumb, dumb.
Other posts by alittleecon:
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Welfare cuts are hard, but nowhere near as hard as pay cut, and pay freezes. Economics aside its is morally wrong for workers to face pay freezes or cuts, whilst benefits are untouchable.
Hi David, don’t mean to sound harsh, but it’s just this type of phony moralising that has kept us in this hole. I don’t see anything moral in kicking the least fortunate just because another section of society has been kicked. It sounds obvious, but wages need to go up, not benefits down. Many people seem to have this fear that “if we give them more, I will have less”. In fact the opposite is often true, but this view permeates right to the top.
You don’t get to put the economics aside I’m afraid. This is just what the Government have done with austerity, painting government debt as morally wrong and saving virtuous, and it has led to this downward spiral. Unless you are more interested in growing the gap between rich and poor than growing the pie for everyone, getting the economics right is the most important thing right now.
Reblogged this on To the left of centre and commented:
This is a great post. It is something I was considering writing about, but the author of this is – it seems – more informed than I am and this post explains the issue more clearly and convincingly than I could have done.
It’s dog whistle politics made possible by stigmatisation & attacks on benefits claimants made over the past 20 years by politicians and the media. I saw a graph last week that showed public opinion sympathy for claimants took a big dip around 1996/97 & has been declining ever since, despite the worsening economic climate.
It wasn’t just the Tories responsible for this (though they & the execrable IDS are the worst exponents). I recall the Blairite John Hutton (now a coaltion adviser) attacking the number of people “parked on Incapacity Benefit” in 2007. It was his successor at Work & Pensions, James Purnell (usually universally descibed as “the odious James Purnell”) another Blairite, who upped the ante on “welfare reform”, (i.e. cuts) and introduced the Great British public to the charms of ATOS.
Once you have a cross-party consensus on an issue like this it is diffiuclt to break it. Labour under Miliband needs to get off the backfoot on this & attack and expose coalition lies – the bankers we support made the crisis but we’ll make the poorest pay the price.
Incidentally, I was on benefits in the early ’80s thanks to Thatcherite unemployment & claimants then (3 million of them, unsurpassed at the time) were not stigmatised, indeed there was a great deal of sympathy for them and shame among politicians at the high rate of unemployment.
Great analysis.. thanks 🙂
A very interesting, well thought out and well articulated take on the situation. I am not an economist (which is why I was surprised that I was able to understand this concept so easily) so I never thought to take this perspective and focused my opposition purely on the distress and financial implications to the most vulnerable members of society.
Thanks for the post