Executive Summary Irish Government-funded Studies on Basic Income

Executive Summary Irish Government-funded Studies on Basic Income

This executive summary includes the overview to these studies as published and a summary of the conclusions of the studies prepared by CORI Justice Commission, March 2001.

1. Background

Partnership 2000 for Inclusion, Employment and Competitiveness provided that:

"A further independent appraisal of the concept of, and full implications of introducing a basic income payment for all citizens will be undertaken, taking into account the work of the ESRI, CORI and the Expert Steering group on the Integration of Tax and Social Welfare and the international research. A broadly based steering group will oversee the study".

In pursuance of this commitment a Steering Group was established under the aegis of the Department of the Taoiseach. The Group was composed of representatives of the Social Partnership Pillars and officials from the relevant Government Departments. Its composition is at Appendix I. The Group met on 10 occasions. The Group agreed Terms of Reference for a study on Basic Income, and these are attached at Appendix II. The elements of the study were commissioned following the normal tendering requirements.

It is important to emphasise at the outset that the P2000 commitment did not refer to, and thus the Steering Group was not considering a specific detailed model of Basic Income for implementation, but rather the implications of a Basic Income approached. Basic Income has been put forward as an approach to improve substantially the distribution of income with particular reference to the lowest income deciles of the population. It is intended to remove unemployment and poverty traps and to simplify the tax/social welfare system. Its proponents argue that it can contribute to the common good by providing citizens with greater liberty to achieve self-fulfilment and contribute to the development of society. The approach has been developed and analysed in several papers. The analysis in this study was based on a set of proposals developed by CORI and agreed by the Group, in order to illustrate the implications of a Basic Income approach.

In addition it should be noted that, in line with the mandate of the Steering Group, this overview of the analysis should not be understood to be an endorsement of any particular specification for a basic income, or indeed, for a basic income scheme itself.

2. Consultancy Study

The Steering Group commissioned consultants to undertake analysis in two distinct but inter-related phases. Phase 1 of the study was designed to examine the first round or static effects of the introduction of a Basic Income system in Ireland, without allowing for possible changes in individual behaviour as a result of its introduction.

This part of the study was undertaken by two separate consultants, Professor Charles Clark, St John's University, New York and the Economic and Social Research Institute (ESRI).

(a) Professor Clark provided an aggregate analysis of the costing of the basic income scheme, using macro economic statistics, and an analysis of the distributional effects on illustrative households, along the lines of Clark and Healy, 1997.

(b) The ESRI conducted a microsimulation-based analysis of the costs and distributional impact of a basic income on actual families, using the SWITCH tax benefit model based on relevant survey data.

Phase 2 of the study was designed to take account of the dynamic effects and the long-term sustainability of a basic income scheme from a broad economic and social perspective. This phase was carried out by a consortium led by the Economic and Social Research Institute.

3. Parameters of the Study

The Group's concern was with the broad concept of Basic Income rather than any specific scheme. For the purposes of this study a basic income option was developed for the year 2001, based on information which was available at the time of Budget 1998, i.e. February 1998. The option was developed so that it would have available precisely the same level of exchequer resources as three "conventional" options which were also projected to 2001. The intention behind this equalisation of resources was that the effects of basic income as a system could be compared with "conventional" options.

All of the recent work on basic income that has been carried out under the aegis of CORI has included a Social Solidarity Fund, which permits targeted payments to be made to certain low income groups. Within the above exchequer constraint and in consultation with the ESRI, the Steering Group developed detailed specifications for the disbursement of this Fund and these disbursements were included in the comparisons of basic income with "conventional" options.

The Group did not examine the detailed administrative and eligibility conditions which would be necessary to achieve such targeting, as the analysis was intended to be indicative rather than comprehensive. Consequently, no judgement is made about the viability of these provisions. A number of iterations of a basic income proposals that includes the application of a Social Solidarity Fund were considered by the Group.

(a) Within this framework the rates of payment to be examined were harmonised as between the basic income payment levels and the assumed rates of payment under the social welfare system.

(b) It was assumed, conservatively, that tax cuts of £250 million (on a full year basis) would be made available in each of the years 1999, 2000 and 2001.

(c) It was assume that all farm income supports, which reflect EU policies, would remain in place. The rate of DIRT was set at 24%. A Social Responsibility Tax, which forms part of the proposed basic income structure, was set at 8%.

The Group agreed these technical assumptions for the purposes of the study. Some variants were examined in the research by way of sensitivity analysis. The benchmark scenarios against which the Basic Income approach was compared, were taken to represent a reasonable approach to the structure of tax and social welfare policy, without implying any commitment to the particular set of rates; payments or tax/social welfare structure.

While in retrospect the benchmark scenarios and economic assumptions may seem to have been conservative, these do not invalidate the research. The key point underlying the research is that the structural comparison between Basic Income and the conventional system should be done on a consistent basis and this has been achieved.

4. Social Solidarity Fund

The Basic Income scheme studied by the consultants included a Social Solidarity Fund amounting to £387 million, aimed at compensating those who would lose out in a transition to basic income. However, the exact scope of the Social Solidarity Fund had not been specified at the time the studies were initiated.

An initial microsimulation analysis of the Basic Income proposal without a Social Solidarity Fund revealed a substantial number of losers in the bottom four income deciles. The ESRI noted that the aggregate amount earmarked in the proposed fund had the potential to compensate low income losers, if it were sufficiently well targeted.

Following consideration of the draft reports, the Group agreed a possible specification of the Social Solidarity Fund. As with the assumptions in Section 3, the technical specification set out below was agreed by the Steering Group for the purposes of the research study, and does not imply any commitment to these policies or rates of payment. The Group did not examine the detailed administrative and eligibility conditions which would be necessary to achieve such targeting, as the analysis was intended to be indicative rather than comprehensive. Consequently, no judgement is made about the viability of these provisions.

The possible payments agreed were:

• An additional payment of £30 per week to those living alone or where a second adult is in need of care (only made to those where there is no additional source of income in the household)
• The basic rate of payment for the third and subsequent children to be raised to £23.80 per week
• A disability payment of £4 per week
• A temporary transitional payment for 18-21 year olds who, on the introduction of a Basic Income system, were on a higher rate of Unemployment Assistance than the Basic Income
• A special tax allowance of £2,000 for elderly people in receipt of an occupational pension and who currently have an entitlement to a Contributory Old Age Pension
• The allocation of a sum of £100 million for socially useful work.

5. Overview of Findings of Study

The consultants' studies on Phases I and II, which are reproduced in full in this Report, set out the conclusions of their examination.

The brief of the Steering Group was to steer and oversee the study. The Group has not taken any policy position in regard to the various findings and issues contained in the reports. However, the Group considered it useful to point out some key issues which have emerged in the studies. These are contained in the following paragraphs.

(a) Phase I Findings

Phase I entailed a static analysis of the cost and distributional implications of the introduction of a system of basic income in Ireland. Therefore, the two pertinent issues emerging from Phase I relate to

• The tax rate required to finance the basic income proposal and rate of payment under examination.
• The distributional implications for respective income groups within the economy i.e. who would gain or lose out financially under the system being proposed.

Tax Rate

The Basic Income payment cited was £74.80 per adult to be indexed over time, (£96 for an elderly person), and that the costs of these hypothetical basic income payment levels would be just over £12 billion, which would need to be funded by either tax or savings on other areas of expenditure. The ESRI calculated that this would require a tax rate of 51.6%. When the social solidarity fund was specified more precisely the required tax rate was closer to 53%. Clark estimated a rate of 47.26%.

The different rates reflect differences in the respective approaches to determining the available tax base, the cost of funding Government services (other than the elements of a basic income system) and the treatment of a Social Solidarity Fund which would compensate those losing out in a transition to basic income. The sensitivity analysis carried out by the ESRI (pages 20-21 of the ESRI phase I study) sets out some of the differences, and yields a tax rate in the range of 2 percentage points lower, or 1 percentage higher, than the original estimate. In the context of the different methodologies, the Group considers that both sets of estimates represent a reasonable indicator of the range of likely tax rates, and that the difference does not invalidate either study.

The parameters supplied to the consultants in February 1998 were rapidly overtaken by the faster than expected economic growth that occurred since then. In 1999 the Steering Group asked the Department of Finance to provide tax base data to enable the consultants to prepare an updated estimate of the required tax rate. The result of this exercise was that a rate of 47.7% would be required in 2001. Further economic growth since 1999 would enable this estimated tax rate to be reduced further. Equally, the tax rates applicable in the conventional benchmark scenarios would also be reduced. Tax reductions significantly in excess of the benchmark assumptions have, of course, been implemented over the past three years.

The additional resources which were calculated to be available for this updated estimate were not included in the income distribution analyses of basic income that were carried out by the two sets of consultants. The reason for this is that the additional resources could be used not just to enhance basic income but equally they could be used to enhance the conventional options. Hence, by using tax rates which they calculated based on the original study parameters, the consultants achieved "like with like" comparisons.

Distributional Effects

The distributional analysis compares the outcome in 2001 under the basic income system with the outcomes of three conventional options with access to the same resources. This type of analysis is very rigorous. It differs from analyses that are usually carried out of the annual Budget, where pre and post-Budget outcomes are set out side by side; in this usual kind of analysis it is sometimes possible to show that every person gains from a Budget. However, in the analyses that were undertaken for the Steering Group, it is not possible to achieve an outcome where everyone gains. The gains experienced by some people under any option, in relation to an alternative option, must be balanced by losses under this option in relation to the alternative option.

Distributional effects were first analysed by both sets of consultants before the Social Solidarity Fund was distributed. The different methodologies used by consultants to examine the distributional effects yielded somewhat different results.

Clark found that the average household income for all of the bottom 6 deciles would be higher in 2001 than under the conventional system, while average household income in the top 4 deciles would be lower in 2001 than under the conventional policies. Clark also found that over a three year implementation period, average households in every decile would see their disposable incomes rise in absolute terms; under the conventional system, some growth in absolute incomes would also occur.

The ESRI found that on average there were gains for the bottom six income deciles and losses for the top four. This analysis found that families headed by single, widowed, separated or divorced persons, rather than by a couple, accounted for most of the potential losers. Single unemployed, lone parents and others (including those who are ill or disabled, some carers and widows below pension age without children) account for 95% of all potential losers in the bottom four income deciles.

The specification of a Social Solidarity Fund provides a mechanism to compensate losers under the hypothetical scheme. The Group reiterates that these mechanisms are merely indicative, in order to provide a broad view of how such a fund would operate. Therefore, the Group is not commenting on the viability of the proposals made under the Fund.

It should, however, be noted that such a specification under the Social Solidarity Fund reintroduces a form of means testing into the tax/welfare system, and implies retention of significant elements of the administrative costs associated with such a system.

When the Social Solidarity Fund is distributed the ESRI found that the effects on Basic Income in relation to poverty would be as follows:

• 70% of household in the bottom four deciles would gain from basic income, while 16%would lose compared with conventional options
• Half of the individuals who would be below the 40% poverty line under conventional options would be brought over this poverty line by basic income.

(b) Phase II Findings

Phase II examined the potential dynamic impact of a basic income system and the long term sustainability of such a scheme, not least having regard to and the free movement of people and capital within the EU. The information derived from Phase I provided a basis for this study.

The second phase of the study was carried out by the ESRI et al. As the Phase I analysis was essentially empirical, it did not allow for behavioural changes in the labour market as a result of a basic income scheme and the impact on economic growth and competitiveness. The Phase II analysis was necessarily more speculative in that it was concerned with possible changes in behaviour of different groups of people consequent on the introduction of basic income. As basic income has not been implemented in any country, the Phase II inquiry sought out relevant evidence to give best judgement on the likely impacts of basic income.

The key issues emerging in the Phase II study are

• impact on labour supply
• impact on migration and on the informal economy
• impact on the labour market
• impact on economic growth and competitiveness

Labour Supply

An assessment of the impact of the proposal on financial work incentives for the potential labour force must consider not only those currently in employment, but also those who are unemployed those who classify themselves as fully engaged in "home duties". Two aspects are considered in relation to financial incentives to take up work - replacement rates and changes in marginal tax rates. For those who are unemployed and in receipt of unemployment assistance or benefit, basic income provides a substantial drop in the incidence of replacement rates over 70%. This provides an improvement in the financial incentive to work for the unemployed.

There is a substantial drop in the incidence of replacement rates over 70% and the proportion of unemployed people facing replacement rates over 80% would fall from 9.1% to 1.5%. there is a significant increase in the number of unemployed facing replacement rates of between 30% and 70%."

For those (almost exclusively women) who classify themselves as "engaged in home duties" replacement rates rise more often than they fall. The incidence of high replacement rates for those in employment is also significant. Married women were seen to be particularly likely to see their replacement rate rise, with one third of married women, currently classified as employees or in home duties, having replacement rates rise by 10 percentage points or more. For many of these, entitlement to a full personal basic income payment would mean their income while not in paid work would be a good deal higher than under the conventional welfare system.

The findings lead to a conclusion that a fall in labour supply is more likely than an increase. The main impact of a change to a basic income scheme was found to be on tax payers with marginal tax rates less than 30% under the conventional system, whose marginal tax rates would rise to about 50%, or more in certain circumstances, under a basic income system. This increase could apply to 57% of taxpayers. Changes in marginal tax rates can affect decisions regarding hours of work, decisions to work overtime, to take on extra hours or to opt for part time work. It should be noted that in a Basic Income system each person receives a tax-free payment from the state. This means that their average tax rate could, and in many cases would, be lower while their marginal tax rate would be higher.

Migration and the Informal Economy

In terms of impact on migration, broadly speaking a basic income scheme was seen to increase the attractiveness of Ireland for low skilled migrants who might depend on such an income, while reducing after-tax income for those nearer the top of the earnings distribution. However, the analysis of the evidence on the sensitivity of migration to financial incentives suggests that the introduction of basic income would in the short term have a very small impact on the net migration flow. It could have a more significant impact on the composition of gross inflows and outflows. However, the entry of poorer countries into the EU could lead to more significant immigration in the longer term.

As far as the informal economy is concerned, a basic income scheme could encourage some people to move from the unofficial economy into regular employment. Quantifying the scale of this effect is problematic, since it is also acknowledged that the incentive to conceal income could increase for a large number of those currently in employment and self employment. The net effect would therefore be unclear.

Labour Market

The study indicates that the potential impact of a basic income scheme on behaviour in the labour market relates more to the supply then to the demand side. Irish evidence suggests that the labour force participation of women, and in particular married women, tends to be significantly more responsive to financial work incentives than that of men. It has been shown that a substantial number of married women who are currently employees or working full time in the home would see a significant increase in their replacement rates. The incentive to participate in the paid labour force for this particularly responsive group would therefore be significantly reduced by a basic income scheme. This combines with a reduced willingness to work overtime and/or some inclination to reduce the hours worked.

The proposal under the scheme to abolish employers PRSI and replace it with a flat rate Social responsibility Tax, at a lower rate then employer PRSI but without a ceiling, could affect labour demand more directly. The increase in costs to employers for those on earnings above the conventional system's PRSI ceiling, and the reduction in liabilities for those below that ceiling, could increase the attractiveness of low or middle wages labour relative to high wages labour. The recent introduction of a National Minimum Wage will have an important impact here, however given the introduction of a basic income scheme in a context where the labour market was already very tight, a reduction in labour supply as a result of a shift could add to already considerable pressure on wage levels and potentially on inflation and competitiveness. However, uncertainty about labour supply responses, and in particular about the potential for counter-balancing inward migration, makes the overall impact of a basic income scheme on the labour market very difficult to assess. A fall in labour supply is more likely than an increase and a fall in the skilled composition of the labour force is also likely. (ESRI, Phase II p.71).

Growth and Competitiveness

Assessing the broader impact of a basic income scheme on growth and competitiveness is even more difficult. The basic income proposal involves factors tending to increase both the supply of and demand for low wage, low skilled labour and to reduce the supply of and demand for higher skilled, higher paid labour. Thus, even if total employment were to remain constant, productivity and output might then be expected to be somewhat less than under conventional tax options. If this were the outcome, it could have implications, inter alia, for the tax rate necessary to fund the basic income model.

It has been argued that basic income could improve growth by promoting a more flexible labour market, a more stable macro-economic environment and by generating a fairer distribution of income. However, the negative effect on growth resulting from an increase in the marginal rate of direct taxation is judged by the ESRI to be the most significant channel of influence, with the most likely outcome being that aggregate employment would fall or remain constant, while average productivity and output would be less than under conventional options.

Summary

It is clear from the work that has been carried out that the introduction of the basic income system as outlined would require a single tax rate on all personal income of around 47.7% (or somewhat lower in 2001) on the basis of a static analysis. If the dynamic effects summarised below resulted in a decline in labour supply, productivity and output, a higher tax rate would, however, be necessary.

This system would have a substantial impact on the distribution of income in Ireland in that, compared with conventional options, it would on average.

• Improve the incomes of 70% of households in the bottom four income deciles while 16% would gain more under conventional options.
• Raise more than half of those who would be below the 40% poverty line under conventional options above this poverty line.

On the basis of this analysis, these impacts would be achieved without any resources additional to those available to the conventional options.

There is a considerable element of uncertainty in predicting the dynamic impact of Basic Income. However, there is a risk that basic income would reduce the high rate of economic growth which is forecast to continue for the next few years. This arises because of the possibility that aggregate employment would be lower than under conventional options or remain constant while average productivity and output would be lower than under conventional options as a result of:

• some withdrawal of labour from the labour force, especially married women with children
• less willingness to work additional hours
• increased immigration of lower skilled workers and emigration of higher skilled persons, resulting in lower employment, productivity and output.

It was not the role of the Steering Group to reach a conclusion or make recommendations about Basic Income. As the studies show, Basic Income would have complex effects, in terms of the initial redistribution, the consequent behavioural changes, and their economic impact. The studies represent a significant move forward in our understanding of these complex issues, and the interplay between considerations of equity and efficiency to which they give rise.