Select Committee on Social Security Minutes of Evidence


1949–50 1959–60 1969–70 1979–80 1984–85 1989–90 1996–70

Employers 32.2 38.2 43.1 47.1 44.0 44.3 42.6
Insured persons 38.8 38.3 39.2 31.2 42.2 52.3 50.9
Tax 23.5 17.5 14.9 17.6 11.5 5.4
Reserve Fund* 3.3 4.0 1.6
Investments 2.1 2.1 1.2 4.1 2.2 3.4 1.1

  *  Merged with the main NI fund in 1975(DSS, 1998f, table 1).

  31.  The TUC also supports social insurance because it offers the opportunity of addressing a major cause of insecurity—the massive loss of income workers face if they lose their earnings through unemployment, illness or disability. Today's workers have long-term commitments, especially their children and mortgages, but a subsistence level of benefit will never provide enough to meet these commitments.

  32.  Most European social insurance systems provide earnings-related benefits for this reason, and social insurance is the only realistic basis on which state benefits can be related to claimants' earnings when in work. In the 1960s and 1970s earnings-related supplements were introduced to NI benefits to meet this need, 6 but this reform was reversed in the 1980s and 1990s. While the return to a system of earnings-related NI benefits may not be an immediate prospect, it remains a major TUC social security objective for the longer term.

Private insurance and market failure

  33.  While private insurance provides a useful supplement to social insurance, we should not assume it can substitute for state provision:

    "The debate on the boundaries of the welfare state has to take into account what the private sector is able to do. Much of the debate seems to assume that insurance companies are an extension of the state or charitable organisations with funds of their own. They are neither. Most insurance companies are publicly quoted companies that have to achieve the same return on capital as other quoted companies. A number of insurance companies are mutual, but, in practice, they operate in a very similar way to their quoted counterparts. They are all in business to make a profit and they operate in very competitive marketplaces. That competition derives not only from other insurance companies, but also from alternative investment vehicles and risk management techniques. In such a marketplace it is not open to insurance companies to decide as a matter of policy to redistribute income from the rich to the poor, from the fortunate to the less fortunate or, indeed, between any two groups. Insurance companies also cannot insure against certain events occurring at certain times. They are in business to protect against the unforeseeable and the unpredictable. It is entirely foreseeable that somebody who leaves school with no formal educational qualifications, who is unable to read and write properly and who has no aptitude for work, is going to find it more difficult to obtain and hold a job or to build up savings to tide them over a period of ill-fortune. Accordingly, the private sector cannot provide such a person with unemployment insurance or the guarantee of a generous pension in old age.

    "While on the negatives, it is also important to note that, in some respects, the private sector cannot operate as cheaply as the state. On a like-for-like basis, the private sector should be more efficient than the state, and, indeed, is so. But where the state is able to collect money through the tax system, and to give it away, then obviously this can often be done more cheaply than operating a commercial insurance system which involves marketing products and assessing claims." (Mark Boléat, Director General, Association of British Insurers, in European Policy Forum, 1998, 4–5).

  34.  One reason for supporting National Insurance is that it provides for risks private insurance cannot cover. Imperfect knowledge and moral hazard can make contingencies such as unemployment difficult for private insurers to cover.

  35.  The characteristic features of private insurance result from the fact that it is provided in a competitive market, in which customers can choose one insurer rather than another. Insurers therefore compete to charge customers lower premiums for any given benefit.

  36.  An insurer who charged everyone the same premium would lose customers to competitors who identified those with low risks and charged them lower premiums (because they would be less likely to make a claim). All insurers therefore relate the premiums they charge a customer to the likelihood that s/he will make a claim.

  37.  For private insurance to be viable, the probability of the occurance being insured against must pass five tests:

    —  Independence: If the probability of occurrence for a number of individuals buying insurance is linked the premiums for those individuals cannot be worked out accurately. There are also likely to be surges of claims which insurers will have difficulty meeting.

    —  Uncertainty: The occurrence must not be certain to happen—otherwise the premium will cost more than the pay-out. The probability must be less than 1, usually significantly so.

    —  Predictability: The insurer must be able to estimate the probability with reasonable accuracy or it will be impossible to work out a premium.

    —  No "adverse selection": Private insurers charge low premiums to people with low risks, and high premiums to high risks. If someone can hide the fact that s/he is a high risk, then there is adverse selection. If this happens often enough the insurer may have to pay out more than is received in premiums.

    —  No "moral hazard": Insured individuals must not be able to influence (at low cost to themselves when compared with the possible gain) the probability of the event insured against.

  38.  These conditions have a special bearing for the risks provided for by social insurance, and we examine below their application to unemployment, sickness and disability and maternity.


  39.  Mortgage protection policies covering unemployment are now commonly offered to people taking out mortgages. Some insurance companies have begun to offer other income protection policies covering unemployment, though these have largely developed as another form of credit insurance. Nonetheless, the ability to provide one benefit in the event of unemployment suggests that insurers could provide others—including the equivalent of Jobseeker's Allowance. Whether such insurance could substitute for social provision is another matter.

  40.  All unemployment benefits face a serious moral hazard problem. People making themselves unemployed can be addressed with rules outlawing voluntary unemployment and dismissal for misconduct, similar to those used in the NI system for Unemployment Benefit. The problem of people extending the duration of their unemployment can only be addressed by strictly limiting the period over which benefit is paid. Although, for the population as a whole, the probability of unemployment is low enough for private unemployment insurance to be theoretically possible, there are groups for whom the probability is high enough for them to be unlikely to be able to obtain cover—people with a combination of low skills or qualifications, residence in a depressed area, or membership of a group subject to discrimination. There would also be unequal premiums, as different occupations have very different risks of unemployment.

  41.  Private insurance for unemployment is, on the above grounds, possible, but with the following characteristics:

    —  Very unequal premiums;

    —  Some people not being covered;

    —  Claimants would have to return to public provision after entitlement ceased;

    —  A tendency to discriminate on the grounds of race, age, disability and sex.

  42.  It should be noted, that the first three of these characteristics do in fact characterise mortgage protection insurance, currently the main form of private cover for unemployment. (There has not, as yet, been any study of whether it is also discriminatory.) Anthony Claytor, a Director of Pinnacle, one of the companies taking income protection furthest, has said that the parameters necessary for insurers to provide cover include the fact that not everyone will be eligible for cover and a state safety net would still be needed. (European Policy Forum, 1998, 5)

Sickness and disability

  43.  Insurance provision is growing, and the commonest schemes are:

    —  Permanent Health Insurance (an income paid to a policy holder disabled through sickness or injury) is the commonest, and the insurance industry expected it to grow rapidly with cuts to state benefits and the last Government's abolition of tax on PHI payments. This growth has not happened, and just 10 per cent of the workforce are covered by PHI, 60 per cent of these by their employers' group schemes, and just 4 per cent by personal PHI. (Howard, 1997, 27) This may be because premiums have been rising, and insurers have responded by cutting PHI benefits—limiting them to a restricted period or to a list of specific costs, such as mortgage payments.

    —  Critical Illness Insurance (CII), a lump sum, usually for someone with any of seven "core conditions"—heart attack, cancer, kidney failure, major organ transplant, coronary artery bypass surgery and total permanent disability.

    —  Personal accident and sickness insurance (ASI) which normally pays benefits on an annual basis, and often also offers lumps sums for events such as death, loss of an eye or limb and total permanent disablement.

    —  ASI policies often also provide temporary cover for incapacity for the policyholder's usual occupation and medical expenses cover.

    —  Long-term care insurance, still very unusual in the UK, with only 20,000 policies in force. (European Policy Forum, 1998, 24)

  44.  Sickness benefits can fall foul of the independence condition for insurance—if I have an infectious disease your chances of being infected are increased. There are also moral hazard problems—very few people will deliberately make themselves ill to qualify for benefit, but they may feign illness. These problems make PHI, CII and ASI more expensive, though the costs are reduced when the pool of risk can be extended, which goes a long way to explaining why group cover is more popular than personal provision.

  45.  Although group PHI, CII and ASI is certainly practicable, it has features which make it unattractive as a replacement for state provision:

    —  Premiums are higher for women, older people and people with HIV or AIDS, and many schemes require evidence of good health;

    —  Premiums are higher for manual workers than for white collar workers (and some insurers will not quote for blue collar workers);

    —  Insurers often exclude workers with "atypical" contracts of employment, such as part-time or temporary workers;

    —  Although group PHI policies can provide an individual with cover after s/he stops working for the relevant employer, the take-up on this option is low. (Howard, 1997, 27)

  46.  The rise of genetic science may create new problems for any welfare reform strategy predicated on increased reliance on private insurance. As more genetic tests which predict for different conditions are created, public policy on insurance cover can take three directions, all of which are problematic:

    —  Insurers can be allowed to require people seeking cover to take a test, and set their premiums accordingly. Individuals with a positive result will find it impossible or expensive to obtain cover, and will face the future knowing they may one day face poverty as well as impairment.

    —  Insurers can be forbidden to require people to take a test or to ask whether they have taken a test. But it will be impossible to stop the individuals taking a test, leading to a massive adverse selection problem.

    —  Insurers can be allowed to ask for the results of tests only when applicants have had their own test. This would discourage people from taking tests, which might be bad public health policy.

  47.  Ronald Dworkin has called this the "insurance dilemma". (Dworkin, 1999, 38)


  48.  There is a moral hazard that an insured individual can influence the probability that she will have a baby, and the existence of insurance could even encourage her to do so. It is also very hard to estimate the probability that any individual woman will have a baby. This would make personal insurance for maternity pay difficult to arrange, and legislation in any case requires employers to provide this.

Private insurance and equity considerations

  49.  Even more important than the "market failure" argument for social insurance is the `social failure' of private insurance. It is because National Insurance membership is compulsory that it is possible to avoid relating Contribution levels to a worker's risk. Every worker who meets the Contribution conditions is covered, and none have to pay higher premiums. This gives social insurance a significant advantage vis-a-vis private insurance for any Government concerned about equity in the benefits system. Private insurance schemes are only efficient when individuals' premiums are related to their risks. Overwhelmingly, people with higher risks of losing income from employment are older, disabled, less skilled. They are more likely to be women or members of an ethnic minority. People with "atypical" employment contracts—part-time, temporary and casual workers—are also worse risks than those with a conventional career. Relying only on private provision would therefore exclude those people most likely to need help, or charge them higher premiums: a very regressive policy.

  50.  As the Social Security Advisory Committee concluded when looking at this issue:

    "In the fields of incapacity, disability and unemployment, we see little scope for developing private provision to an extent which would impact on state benefits. There is clearly a market for private insurance in these fields and it will doubtless continue to develop, as it has done in recent years to meet new needs. However, we believe that the state should remain the major provider of benefits for long-term sickness, disability and unemployment. The universal coverage of the state scheme is its great virtue and is essential for the protection of the most vulnerable who might find private cover difficult to afford or even to obtain, if they represented a high risk." (SSAC, 1994, 21)

Social insurance and work incentives

  51.  The fact that National Insurance benefits are not means-tested is a strength when compared with means-tested benefits. The Government has emphasised the importance of "making work pay", but the poverty traps associated with means-tested benefits make this more difficult to achieve. Poverty traps are an inevitable result of the old Government's strategy of switching welfare from National Insurance and other universal benefits to means-testing. Means-tested provision has risen from 16 per cent of social security spending in 1979 to 35 per cent now.

  52.  The problems of means-testing are a well-established argument for National Insurance, and this document will not return to ground that has already been covered many times. Instead, we will concentrate on the impact of cuts in contributory benefits on an issue the Government has repeatedly indicated it is concerned about: the growing number of "work poor" households.

  53.  During the 1980s and 1990s contributory unemployment benefits in the UK were dramatically scaled back and means-tested unemployment benefits became the norm rather than the exception. As the chart below shows, between 1980 and 1998 the proportion of claimants wholly dependent on means-tested unemployment benefits more than doubled (up from 35 per cent to 76 per cent) and the proportion receiving some element of contributory benefit fell from 50 per cent to 15 per cent. Furthermore, the proportion wholly dependent on contributory unemployment benefit fell from 41 per cent in 1980 to 13 per cent in 1998. (DSS, 1999a; Unemployment Unit, 1994).

  54.  This trend is linked to the growth of the "work rich, work poor" divide, with a growing proportion of families with two adults in work and a parallel growth in households with no adults in paid employment. The latest DSS low income statistics (DSS, 1998b) estimate that between 1979 and 1997 the proportion of workless households of working age increased from 7 per cent to 19 per cent and that 23 per cent of all families with children are now workless.

  55.  Researchers have identified three principal factors behind this development:

    —  the increasing participation of women in the labour market;

    —  the growth in jobs which are unsuitable for a single wage earner with a family to support (i.e. low-paid full-time work and "atypical" employment, e.g., part-time and temporary work); and

    —  the replacement of contributory unemployment benefits by a highly means-tested benefit system with very strict "earnings rules".

  56.  The interplay of these trends has intensified the "work-rich, work poor" divide by encouraging those families, in a position to do so, to move to dual-earner status (e.g. most part-time jobs are taken up by women whose partners are already in work). At the same time, the extension of means-testing and the declining value of earnings disregards have created an especially perverse work disincentive for female partners of unemployed claimants. First, they are actively deterred from participating in part-time employment and are therefore effectively barred from accessing the major female employment growth area in the past two decades. Secondly, women who are already in part-time work or relatively low-paid full-time work when their partner becomes unemployed are often encouraged to abandon such employment when the claimant's entitlement to contributory benefit ends.

  57.  The reason for this behaviour can be explained by the fact that a claimant is completely ineligible for means-tested benefit if a partner works more than 24 hours per week and very often the woman's take-home pay from full-time work is not adequate to support the household. The logical outcome in these circumstances is for the woman to abandon her job and for the whole household to claim means-tested benefits. In a case where the woman is working for less than 24 hours per week, all her earnings (bar £10) is clawed back from her partner's benefit, and in these circumstances it is often also financially more attractive to move to workless household status.

  58.  An analysis (Gregg and Wadsworth, 1998) of European countries between 1984 and 1994 shows that the workless household rate declined in most countries with overall jobs growth in this period. However, the UK was one of the few exceptions to this rule and the authors conclude that "the experience of countries like the UK shows that even with a constant employment performance over the cycle, employment polarisation can result, so it is wrong to conclude that these problems will disappear with a general economic expansion".

  59.  Using data from the above study, the chart below left shows how the proportion of families with children without any work in 1994 was highest in the UK, and in contrast to other European countries, the "workless family" rate in the UK was also much higher than the national ILO unemployment rate. Furthermore, an analysis of more recent data undertaken by the Office for National Statistics (Cooper, 1998 and Cooper 1999) (see chart below right) shows that in spite of the decline in ILO unemployment between 1993 and 1998 (down from 10.5 to 6.3 per cent), the workless household rate in the UK remained fairly static (down from 18.4 to 17.6 per cent) in this period.

  60.  This suggests that in the UK there is an increasing propensity for families rapidly to progress to a workless state and to remain trapped there even after the economy and the job market recovers. Although means-testing is not the sole cause, it has clearly been an important factor.


  61.  British social security debates over the last quarter century have been unusual by international standards. In other countries there is widespread consensus about the basis of the system—means-testing in Australia, social insurance in continental Europe, universal benefits in the Nordic countries. In Britain, there is a continuing debate about whether the last Government was right to shift to a largely means-tested system. On the one hand, means-testing is promoted as a strategy which targets benefits on those who need them most, thus enabling the Government to contain social security spending whilst maintaining the living standards of the poorest families. On the other hand, critics of means-testing have had three strong arguments:

    —  Means-testing enshrines the poverty trap. The very high marginal effective tax rates faced by benefit recipients considering returning to work are a severe welfare-to-work disincentive.

    —  Means-testing breaks National Insurance's strong links to the world of work.

    —  Means-tested benefits are less likely to be popular with those who pay taxes than National Insurance, the strategy which "keeps the middle classes on board." This is certainly the US experience—in the USA contributory benefits, known as "social security" are very popular, whilst means-tested benefits—"welfare"—are almost universally condemned. Studies repeatedly show large majorities of Americans supporting "social security," (Page and Shapiro, 1992, 118) and being willing to pay higher taxes to maintain it. (Twentieth Century Fund, 1996, section 2; Baggette et al, 1995, 430).

  62.  At first sight, the Government's welfare reform policy might be seen as having come down on the side of means-testing. Some Parliamentary critics of the introduction of tax credits have repeatedly emphasised the fact that they are means-tested. One notable feature of last year's Green Paper on Welfare Reform was the absence of any discussion of the debate about means-testing, and no Government initiatives or presentations have included National Insurance as part of the answer to the problems faced by the system. Indeed, the Secretary of State has spoken of the need to concentrate resources on those who most need help. Furthermore, the Government has extended the scope of means-testing within National Insurance (already introduced with J.S.A.) With its decision to reduce the Incapacity Benefit paid to claimants who receive more than £50 per week in occupational pensions. The decision to introduce a new contribution condition for IB and the abolition of Widows' Pension are further restrictions of the scope of National Insurance.

  63.  It would, however, be a mistake to dub the Government's policies a mere continuation of their predecessors'. The significant increase in Child Benefit would not have been introduced by any Conservative Government, and no previous Chancellor would have published a Treasury paper on Tackling Poverty. It is also important to recognise the fact that the Government's lack of enthusiasm for National Insurance does not mean that it has accepted the `Lilley strategy' for reform. This, in essence, simply meant accepting the problems associated with an expansion of means-testing: the introduction of Tax Credits is (amongst other things) an attempt to side-step the means-testing vs National Insurance debate.

  64.  This is important. The Government's welfare reform strategy is a genuine "third way"—an alternative both to means-testing and non-means-testing, as these approaches have come to be defined by the terms of British social security debates.

  65.  Tax Credits constitute a break in social security policy. Although Tax Credits have traditionally been associated with elements of the Conservative Party (Britain could have had Tax Credits for a quarter of a century if the Conservatives had been re-elected in 1974, and Family Credit was designed by Norman Fowler as a compromise between social security and Tax Credits) Conservative Governments have never finally introduced this reform. Means-tested benefits like Income Support have a severe poverty trap because they have a deduction rate of 100 per cent as income from non-benefit sources rises. Tax Credits have lower deduction rates (55 per cent in the case of the Working Families Tax Credit) and hence a less severe poverty trap.

  66.  Other characteristic elements of the Government's welfare reform strategy include the various welfare-to-work measures and an increased emphasis on employers "bearing a fairer share of the burden" for income replacement benefits, through occupational provision. This strategy is designed to address the criticisms of means-testing listed above:

    —  The lower "taper" (or benefit deduction rate) should minimise the welfare-to-work barriers of means-testing.

    —  Increased or maintained tax credits can be presented as tax cuts rather than benefit increases, and are therefore less vulnerable to the loss of middle class support. The US experience of the Earned Income Tax Credit is that it is far more politically popular than any means-tested benefit ever has been. The fact that the WFTC is provided for working families should also help boost support.

    —  The welfare-to-work emphasis of Government policy, and the emergent concern with occupational benefits also replicate the employment focus of National Insurance.

  67.  In policy terms, this is an alternative, and has more substance than many critics have been willing to credit it with. The new strategy, however, holds risks as well as opportunities.

Tax credits

  68.  The TUC has welcomed WFTC, which provides £1.5bn more for low-paid workers than Family Credit. We have also accepted that the Government's judgement that Tax Credits are more politically robust than means-tested benefits. But we (and the Government) could be wrong—Tax Credits could come to be seen as "stealth benefits", paid for by "stealth taxes". Spending on Tax Credits could grow very quickly—US experience suggests that Tax Credits are more vulnerable to fraud than benefits, and there is a real danger of employers using Tax Credits to subsidise pay when they issue them in the wage packet. A generation from now the need to control the costs of Tax Credits could be the biggest issue in welfare reform.

  69.  The lower taper makes the poverty trap less severe, but more people will face it. All means-tested benefits face this dilemma: measures to reduce the extent of the poverty trap make it more severe for those who are affected, measures to make it less severe extend the coverage. Some research suggests that the poverty trap is at least as important in its effect on people's decisions about how much to work, as in its effect on decisions about whether to work. Hanesch (1999) has pointed out the fact that "most labour market decisions are not `marginal' in the sense of working only a few more hours, or trying to earn a slightly higher wage. Instead, they consist of large, discrete changes in status, for example from not working to working full-time. Where marginal effective tax rates exist only for a short range of earnings they are unlikely to distort labour market behaviour." (Emphasis added.) There is a risk that a less severe poverty trap, but over a wider range of earnings may be a more serious welfare-to-work obstacle than the current arrangements.


  70.  The TUC strongly supports the Government's emphasis on helping people to move from benefits to employment, especially the New Deal. Recent reports have buttressed the Government's case by emphasising the importance of the absence of earnings as a crucial cause of income inequality. While, on average, wages and salaries provide 63 per cent of all household income, they account for just 30 per cent of household income for the poorest fifth. (Hills, 1998.) Nearly 90 per cent of the adults in the richest fifth are economically active, nearly three times as many as in the poorest fifth. (Stuttard, 1998)

  71.  But it is important to be realistic about the number of people who are going to be helped by welfare-to-work policies. Unemployed people account for only a sixteenth of DSS spending, whilst elderly people account for nearly half:

DSS Expenditure by Client Group 1997–78 Per cent

Elderly people 44
Sick and disabled people 25
Family support 19
Unemployed people 6
Administration 4
Widows and others 2

  (DSS, 1998c, 1).

  72.  If welfare-to-work policies were limited to unemployed people, only a relatively small minority of claimants would be helped. There are far more elderly people claiming benefits than sick and disabled people, lone parents and unemployed people together. While we can be reasonably confident that the Government does not expect pensioners to move from welfare to work, the same cannot be said about lone parents or sick and disabled people, so it is worth looking at these categories in more detail.

Disabled people

  73.  As discussed above, disabled people are a target for welfare-to-work policies: the Government hopes to assess future Incapacity Benefit claimants' partial capacity for employment, and the innovative pilot projects to help disabled people into employment are specifically aimed at claimants of disability benefits. On the other hand, the Government accepts that there are also disabled people for whom welfare-to-work is inappropriate. So, how many disabled people could be helped?

    —  About 44 per cent of disabled adults are under retirement age. (Berthoud, 1998, 5)

    —  About a quarter of working age disabled people either are looking for work or hope to work in the future. (Berthoud, 1998, 39)

  74.  This suggests that roughly one disabled person in ten might benefit from a welfare-to-work strategy for disabled people. The TUC strongly supports such a strategy, and the Government's proposed reforms of anti-discrimination legislation, as we believe that disabled people are able to work, and have a right to work. Nonetheless, welfare-to-work is unlikely to help nearly 90 per cent of disabled people. Even these figures may overstate the impact an employment-focused strategy will have: a survey of a group of disabled people with relatively good employment prospects (people who had qualifications, were relatively young, had relatively few health problems and said they were eager to work) found that, over a two-year period, just 12 per cent found any work. (Berthoud, 1998, 39-40)

Lone parents

  75.  Of Britain's 1.7 million lone parents, (Ford & Millar, 1997, 1) 60 per cent are not in employment. (DSS, 1998d, 6) Benefits for lone parents in 1997–78 cost £10.3 billion (Hansard, 1998) (more than 10 per cent of total spending) and the Government plainly hopes that welfare-to-work will help cut this figure.

  76.  This suggests that up to a million lone parents could be helped by welfare-to-work. Results for the New Deal for Lone Parents to 26 March 1999 found that 3.7 per cent of those invited to participate had got jobs. (DSS, 1999b) Over time this result may be improved upon, but a forecast that 5 per cent of unemployed lone parents will be helped into employment by this New Deal is not unduly pessimistic. This is well worth achieving, and the TUC strongly supports the New Deal for lone parents—helping 50,000 into jobs will be a tremendous achievement. Nonetheless, this will still leave 95 per cent not helped by the welfare-to-work policy.


  77.  It is not easy to calculate the number of carers receiving benefits. In 1996:

    —  357,000 received Invalid Care Allowance; (DSS, 1998e, 211)

    —  159,000 received the carer premium in Income Support;

    —  87,000 received the carer premium in Housing Benefit; and

    —  116,000 received the carer premium in Council Tax Benefit. (Hansard, 1997a)

  78.  There will be considerable overlap between these figures, especially for the means-tested benefits. If welfare-to-work were to achieve the same 5 per cent success rate as we predict above for lone parents, this suggests that between 17,000 and 36,000 carers could be helped in to work.

  79.  In other words, welfare-to-work is a very valuable policy, and will help more people than those counted as unemployed. Nonetheless, we should not expect it to help more than 5–10 per cent of disabled people and people with family responsibilities into employment, and it cannot help the ten and a half million Retirement Pension recipients. (DSS, 1998c)

Benefit levels

  80.  Despite the Government's redistributive measures, the welfare reform policy does not address the question of whether benefit levels are adequate. If benefits are not paid at an adequate level, and increased in line with earnings, then people who rely on these benefits will remain poor and inequality will increase.

  81.  Cuts in benefit levels, in particular the indexing of benefits to increases in prices, rather than wages, are bound to increase inequality, with those reliant on benefits falling further and further behind the national average. On average, benefits provide 16 per cent of all household income but over two thirds of the income of the poorest fifth. Furthermore, 65 per cent of those in the poorest fifth in 1994–95 were receiving income-related benefits, with net income effectively set by the level of these benefits. John Hills, looking at these figures has concluded that these "differences in income distribution mean that if the relative values of different income sources change—for instance, benefits in relation to earnings—the overall [income] distribution is affected" and that "relativities between benefit levels and other incomes are therefore very important in shaping the overall distribution" and this explains why the ending of the link between benefits and earnings significantly contributed to rising income inequality. (Hills, 1998)

  82.  Here we have the most important reason why the current welfare system has failed to halt the increasing inequality of the past two decades. A recent estimate by Professor David Piachaud of the changes in the numbers in poverty over the next five years shows that failure to re-index benefits to earnings will in itself increase those in poverty by 1.5 million. However, a different scenario involving the combined impact of lower unemployment, the minimum wage, the New Deal, welfare to work and the re-indexation of benefits to earnings could, according to Professor Piachaud, reduce the numbers in poverty by over 1 million. He provides a range of estimates with the most pessimistic assumptions giving an increase in poverty of nearly 2 million if the growth in unemployment and an increase in the lone parent population is at the highest anticipated levels and benefits are not re-indexed to earnings.

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