Questions and answers about coronavirus and the UK economy
Questions and answers about coronavirus and the UK economy

Update: what are the effects of Covid-19 on poverty and inequality?

The technique of ‘nowcasting’ provides insights into how the UK’s distribution of income is changing as a consequence of the pandemic. The key determinant of living standards and the impact on the poorest is what happens in the labour market.

It is too soon to say with certainty what will be the overall impact of the crisis on measures of poverty or inequality in the UK. High-quality data on household incomes of the sort that are used to estimate income inequality and rates of relative poverty tend to be released with long lags.

For example, the two most important estimates of the level and distribution of household living standards both tend to be published nine or more months after the financial year spanned by the data (these are the Department of Work and Pension’s ‘Households Below Average Income’ publication, and the Office for National Statistics release on household income inequality). This means that official estimates of income poverty and inequality for the current financial year – 2020/21 – won’t be available until January 2022 at the earliest.

Because of these long lags, researchers have been developing a technique to estimate poverty and inequality at the current moment (see, for example, Navicke et al, 2014).

This is called ‘nowcasting’ and it uses real-time information on how the economy and the labour market are evolving, together with detailed data on the distribution of income in the past, to estimate what is happening to the distribution of income right now. The precise details can vary between studies, and the results are heavily dependent on the methods used and the assumptions made.

How is the crisis affecting the labour market?

A crucial input to nowcasting studies is an assessment of the distributional impact of the crisis on the labour market. It is well established that the initial labour market hit affected young workers more than middle-aged workers; low earners more than high earners; black, Asian and minority ethnic workers more than white British workers; and those on atypical contracts more than salaried workers (Adams-Prassl et al, 2020Gardiner and Slaughter, 2020Gustaffson, 2020; and Benzeval et al, 2020). On average, the labour market shock has hit lower earners much harder than the better off.

But there is a difference between having low earnings and being on a low income. The first evidence of this came in a study showing that the incidence of job loss or reductions in earnings during lockdown was more common in the second and third quintiles of the working-age income distribution than in the bottom quintile (Brewer and Gardiner, 2020). This was because around half of adults in the bottom quintile were not in work before the pandemic began.

Similarly, there is evidence that the pattern of declines in earnings – which are greater for low-income households than for high-income households – are flatter when looking at all households, compared with when the analysis is restricted just to households that had some earnings pre-pandemic (Benzeval et al, 2020, Table 5). The conclusion that ‘falls in market income affect only those engaged with the market’ is uncontroversial, but it is important when considering the impact on low-income households.

How is the crisis affecting the distribution of income?

There have been several exercises to estimate the effects of the crisis on the distribution of income. All conclude – unsurprisingly – that the initial impact of the Spring 2020 lockdown, with nine million on furlough (the Coronavirus Job Retention Scheme, CJRS), a record rise in Universal Credit (UC) claimants and some large income falls among the self-employed, was to reduce household disposable incomes. For example, the Treasury (2020) estimated an average fall of 8%, Brewer and Tasseva (2020) estimated an average fall of 8%, and Bourquin et al (2020) estimated a fall of about 4% (although not all of these analyses are directly comparable).

More recent estimates indicate that incomes at the median remained almost unchanged in 2020/21 compared to the previous year, reflecting the relative success of the furlough scheme in partly offsetting a rise in unemployment, as well as robust average earnings growth once the initial lockdown had eased (Brewer et al, 2021).

But all studies estimate that the initial fall in income was greater at the top of the income distribution than at the bottom (something also shown by Piyapromdee and Spittal, 2020). Indeed, the emergency increase in social security benefits means that, on average, low-income households are better off financially than they were before the crisis began, as Figure 1 shows (with similar results in Figure 10 of Bourquin et al, 2020).

Figure 1: Change in real (CPI-adjusted) average equivalised non-pensioner disposable household income, after housing costs, by income percentile: UK, 2019-20 to 2021-22

Source: Resolution Foundation analysis of DWP, Households below average income; and RF forecast (2021), (Brewer et al, 2021)

All studies also agree that those above working age are so far less affected, in financial terms, by the current crisis than those of working age (although see Crawford and Karjalainen, 2020). Lower-income people over the pension age get the majority of their income from the government in social security benefits. And although asset prices have been volatile and interest rates are very low (both of which tend to reduce the income that people can get from their investments or private pensions), this crisis is not rooted in the financial markets, as was the recession after the global financial crisis of 2007-09.

This is in line with what happened with past crises and recessions. A summary of the research evidence after the global financial crisis concluded that there is ‘a reasonably clear answer as to which groups’ living standards are likely to be most cyclical, and hence worst affected by recessions – we expect to see strong effects of recessions on the incomes of working-age individuals, but weaker effects on individuals who are retired or who are not strongly attached to the labour force’ (Muriel and Sibieta, 2009).

Brewer et al (2021) look at measures of poverty measured against a poverty line that is just updated each year with inflation (absolute poverty), and one that is a fixed fraction of median income (relative poverty). They find that absolute poverty fell in 2020/21, largely reflecting the £9 billion boost to social security.

They also find that relative poverty measures fell considerably. This matches what we saw in the past four recessions in the UK (in the mid-1970s, the early 1980s, the early 1990s and the late 2000s), when there were falls in measures of relative poverty – defined as living in a household with less than 60% of median income.

What is likely to happen in 2021?

The UK government’s initial response to the need to support family incomes directly during the crisis was unprecedented. The Office for Budget Responsibility (OBR) estimates the total gross cost of the CJRS and the SEISS (Self-Employed Income Support Scheme) to be £83 billion in 2020/21, and the total additional welfare support to be £8.3 billion (estimate as of November 2020).

These measures have been very effective at protecting workers who have been furloughed under the CJRS, some of the self-employed and those who can claim UC. Those who have lost their job or businesses but cannot claim UC – whether because they have high levels of saving, they have a partner with high earnings, or they have ‘no recourse to public funds’ because of their migration status – will, however, be facing large falls in income.

There are a number of estimates of the number of workers who have missed out on the various support programmes (Parliament briefing, 2021), with 3.8 million workers estimated to have not been eligible for the CJRS or the SEISS (Standard Life Foundation, 2021). In some but not all cases, the scheme rules will have been a result of a trade-off between delivering the support at pace, preventing fraud and enabling operational capability.

Going forward, the key determinant of living standards and the impact on the poorest is what happens in the labour market and, in particular, what happens as the CJRS and other support schemes are phased out from April 2021.

The CJRS is generous in comparison with UC: under the CJRS, the median fall in disposable income if someone is moved to 80% of their past earnings is just 9%; but that figure is 47% if people instead lose their jobs and fall on to UC (Brewer and Handscomb, 2020).

The ending of the CJRS is likely to lead to some employees not being brought back to work or having their hours significantly reduced (in line with the latest OBR forecasts). Either case will mean that these workers’ families experience large falls in their income.

In all economic crises, the policy responses determine the impact on the vulnerable as much as the initial economic shock. That will remain true during 2021, as the state considers which economic activities can resume and when, while continuing to protect public health, and as new policies are introduced or old ones reformed to help to cushion the shock to household incomes.

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Authors: Mike Brewer and Karl Handscomb
Editors' note: This is an update of an Economics Observatory article originally published on 29 September 2020 (previous version available here)
Photo by Paolo Trabattoni from Pixabay 
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