Distributional Impact of Budget(s) 2009

SWITCH, the ESRI tax-benefit model has been used to analyse the distributional impact of the tax and welfare measures in the October 2008 and April 2009 budgets. Results show a significant gain for the lowest income quintile, with losses for other quintiles increasing with income. For details see here for the Irish Times article of Friday 10 April.

37 thoughts on “Distributional Impact of Budget(s) 2009”

  1. @Tim: Can you explain the 5%+ for the lowest quintile? Against the 3% rise in welfare, there has been a reduction in child support, amongst a group that presumably has a higher fertility rate? Presumably this quintile is not likely to benefit significantly from mortgage rate reductions. Further, there was some paring back of benefits for under 20s.

  2. … + the Xmas bonus has been lost (an additional week of welfare payments) or 2% of the annual benefit.

  3. Ronnie
    The major point is that, as in previous years and as argued in a series of Budget Perspectives papers, we use an indexed benchmark for budgetary policy. The idea is that for a distributionally neutral benchmark, incomes would rise (up to now) or fall (this year) by the same % as wage income. So in relative terms, even with welfare frozen in nominal terms, welfare recipients would be about 2% better off than others – and with 3% rise, this comes close to 5%. Under 20s are mostly in larger households – which affects both location in the distribution and % change in household disposable income per adult equivalent. On Christmas bonus – in aggregate terms this seems just under 1% of the welfare spend, rather than the 2% seen from point of view of an individual recipient who loses it. But not all of bottom quintile would get it. With more time we could more of this in, but it wouldn’t affect the broad picture, which is quite striking.

  4. Tim, very useful. But the results are not surprising. Pre-tax earned incomes have either been static or have fallen for virtually all income bands, including public servants given the ‘pension’ levy. The increases in social welfare in the October budget plus the progressive tiering of the extra income taxes make the pattern shown in your table inevitable.

    If we had really detailed data on what has actually happened to income, the re-distribution could be even more marked. High income-earners seem to have lost more than the rest, including in the public sector. Many private sector firms have cut bonuses, which are paid disproportionately to high earners, and some that I know of have cut management pay by more than staff pay.

    There are some wrinkles your model cannot address – for example, the indirect tax changes are regressive, and there must be rapid transition between the income quintiles at both ends (job loss mainly at lower end, distressed helicoptor sales at the top). But the main message is that the poor are not paying for the crisis.

    It beats me how anyone could miss the point – the Govt has increased (non-taxable) welfare payments and introduced new progressive income taxes.

  5. Tim : good analysis and useful clarification of “i thunk that”. I always wondered why Revenue didnt do more (any) analysis along these lines (lack of labour economists?) as they have the most detailed realtime data.

  6. The pattern is not a big surprise, but with changes such as halving of early childcare supplement, raising of PRSI ceiling, as well as levy changes with new rates, detailed microsimulation analysis is needed to get a firm grip on the numbers. A key point is that these numbers summarise an income distribution at household level – for this we need household level micro data which revenue authorities [even in Scandinavia, where there are registers] don’t have. So work of this type is done with tax-benefit models based on household surveys – in the US, the UK, Australia and elsewhere and now in most EU countries (see http://www.iser.essex.ac.uk/research/euromod)

  7. Colm,

    Loth though I am to take issue with your observations, I think, rather than saying “the poor are not paying for the crisis”, it might be more accurate to say the poor are not paying for this first stage of the fiscal adjustment. Although you can’t reveal it, you probably have a better idea than most about what is coming down the pipeline in terms of expenditure cutbacks and I doubt these will be as progressive in their impact. In addition, from a purely opportunity cost, but much more difficult to quantify, perspective, reduced GDP and reduced fixed and human capital investment is likely to impact disproportionately on the lower income quintiles.

  8. I would like to echo the compliments to Tim and his colleagues for this piece. Can I make two comments? First of all, having seen some of this analysis for recent Budgets (pre-2008) my recollection is that since Fianna Fail had its “Inchydoney moment” the lowest quintile has benefitted the most, in relative terms. So that if we looked at these figures over say the last three years the redistribution towards the bottom quintile might be even more marked.

    Second, I suspect that these figures will have quite a dramatic impact on conventional poverty indices. Given a situation where a relative poverty line (say 50% of mean or median income) is falling and at the same time the income of the bottom quintile is rising, then the numbers in poverty (and the poverty gaps for the poor) are being squeezed from both ends. Which probably amounts to quite a big fall in measured poverty. And also serves to show how careful you have to be in interpreting poverty indices!

  9. “The stuff that the poor spend their little money on, tends to get cheaper faster than the average.”

    But surely mortgage interest (presumably not the most relevant of expenses for the poorest quintile) is the biggest component of recent price deflation?

  10. Tim, thanks for highlighting this issue. This budget increases our dependence on higher income earners – incorrectly in my opinion. This will have many obvious and not so obvious outomes. I have witnessed in my own company (multinational) several managers seeking interantional transfers directly as as result of these measures on higher incomes. I am hearing from others that this is not confined just to my organisation.

    It would be interesting to see a split of how many higher earners (those > 150k) are in the multinational sector (whether IT, Pharma, Financials etc.) I guess we should also exclude those sectors which have been decimated such as building and many retailers.

    If the results reveal what I suspect ie that we are overreliant not only on higher PAYE earners but those in multinationals then we have a major problem.

    If our top rate is uncompetitive with our neighbours-rivals which it is at 52% (and forecast to get worse after Dec budget) it is now higher than many in Europe incl the UK. The consequence of this will mean higher earners leaving (possibly also bringing their Irish job positions with them) ultimately the tax net will then have to be pushed again to the lower paid which will reduce the incentive to work even further – due to the very generous job seekers payments by UK et al standards.

    Few are highlighting this issue publically, but I suspect this is a trend we see in offical stats when it is too late.

  11. Do you seriously trust Revenue returns as a source of information? Paying for more tax inspectors is one way of increasing revenue at a ratio that starts off at 20 to 1. It declines, but if staff were moved from other departments into Revenue, then revenue would increase without additional spend. But it would be against national policy to expose widespread evasion. Lets just have another amnesty and not update those pesky statistics!
    Ever hear of GIGO?

  12. Now, we only need to factor in the distributional effects of Nama…taking money from the average taxpayer and giving it to the average bank stakeholder is not likely to be a very progressive undertaking, methinks.

  13. Used to work at a high level in 2 different PLCs before going self employed. Bonus worked out at about 15%-20% of my net salary each year. Share options were also nice (all basically worthless now). Used to be some fairly serious BIK on those once taken up. Can assume very few new company cars out there (BIK went up every time you changed). My bonuses by the way were paid after the year end as many are so a bad 2008 means no bonus 2009 means lower tax take and spend in 2009.

    Assuming you lose your bonus, take a 5%-10% pay cut, and now lose some 5% due to this budget and more to come and that is a dramatic drop in income by any standards.

    The effect of this will not be spread proportionately round the economy. Car sales are one obvious impact but other conspicuous spending must be hit too:
    Holidays: Might of course stay at home!
    Luxury retailing
    High end entertainment – restaurants, events etc

    This sort of discretionary spening can be turned off like a tap unlike say groceries, ESB, Gas. There is going to be quite a shake up.

  14. Tim, I echo the other comments about the importance of this analysis – it’s the one I wait for after every budget, but I don’t think it’s ever been more important than now.

    I think the point about very different inflation/deflation rates affecting different groups is an interesting one – I wonder if there’s a way of applying differential price changes to home owners and renters to get a handle on this?

    Also, Colm McCarthy has argued that private sector wage cuts are much higher than 2% – he suggests 8% (I remain unconvinced). This would surely reduce the negative impact of the budgets on private sector workers, as they are earning less income to pay the taxes on (although of course it would heighten the combined downturn+budget effect on them). It would be interesting to see how sensitive the analysis of the distributional changes would be to the assumption made about the size of wage cuts.

  15. Aedin, I thought my post on private sector pay was a little more qualified than a bald assertion of an 8% pay cut. On differential price impacts across income groups, analysis is complicated. The 2004/05 HBS gives consumption patterns by (gross) income deciles, but the CPI/HICP categories have since been modified. Not aware of any source for home owners vs. renters, but can’t see why this is the most interesting split.

  16. Aedin,

    On differential inflation rates, see link below for a summary of the distribution of inflation (RPI) in the UK in January. Rates for those with mortgages were substantially higher than rates for renters (-2.7% v 4.7%). Largely driven by this, average rates in the top decile (-1.3%) were much lower than those in in the bottom income decile (5.4%).

    I’m not sure to what extent the same is happening in Ireland. The fall in the value in Sterling, in particular, could mean that the variation in Ireland is muted relative to that the UK, where rates of food inflation are still quite high.

    http://www.ifs.org.uk/pr/inflation_fss09.pdf

  17. @John Gerard. I agree share your view on this and am also witnessing the early signs of what could be an exodus of higher earners within multinationals. This is not a well organised group like the ‘teachers’ and ‘unemployed’ – these ladies and gentlemen vote with their feet!

    Analysis: So in arriving at who may be left in the higher income bracket the fact is that the super rich must now be excluded as no doubt their accountants will have them sent to Malta or somewhere similar. We also exclude those in the building profession as this sector is scr*wed. Also exclude many self-employed (including some professionals, consultants etc.), business owners etc. as they have much more flexibility to manage their salaries down below thresholds e.g. splitting between spouse and family etc.

    Therefore we are left with mainly higher earners in the PAYE system – and here we are undoubtedly massively dependent on the international/multinational sector – and we don’t need revenue statistics to prove this. Just like financial capital, human capital i.e. those who work in multinationals have much greater flexibility in transferring overseas. And they will.

    By the way I also agree with the other contributor in NOT trusting revenue statistics, but I don’t think that was the point you were making? Simply put, when the year end revenue tax figures come through Mr Lenihan will once again be seriously disappointed in that his predictions will be way off AND then he will have no choice but to increase the tax burden on the lower and middle income earners further i.e. push down the thresholds. Enter the death spiral of the 80s. Added to this is the insane proposal to add a further burden in future property taxes – guess who will be asked to pay the lions share for this? The notion suggested by D McWilliams and other ‘economists’ that this tax on property is acceptable because is not a ‘tax on work’ is as ludicrous as it is uninformed.

    This wont be the only problem; as taxing the ‘better off’ in many cases is taxing those who will be making the decision whether to locate their business in Ireland, UK, Holland etc. i.e. back to J.Gerard’s competitive arguments. Many multinationals won’t care about 12.5% corporation tax if their management staff will have to be paid even more to compensate for higher personal taxation (with the real prospect of more tax on the way).

    These are the facts in the real world whether Vincent Browne, Fintan O Toole like it or not! The only prospect for recovery in the current climate is through reining in government expenditure and this includes ‘sacred cows’ such as welfare payments and also encouraging new investment with useful tax based schemes NOT closing them all off solely for political expediency!

    Tim thank you for your piece.

  18. The EU-SILC that Tim uses with the Switch model does include a variable for housing tenure – rented or owner-occupied, and mortgaged or owned outright. It even includes info on the amount of mortgage interest paid. So there are some data to work with. Whether something meaningful could be done is another question.

    The reason I thought the renter/owner distinction would be useful is because the falling price level has so far been dominated by mortgage interest; it is falling much faster than rents. So if differential price changes could be applied to renters, outright owners, and mortgage holders, it might change the distributional impacts of the last 6 months, although not of the budget per se.

    Sorry, Colm, if I didn’t convey the tentativeness of your wage drop conclusions adequately. I also hope I didn’t sound dismissive of them – you may well be right, but I’d need to know more about the quality of the data they’re based on to be convinced.

  19. I see a problem with the equal decline model that the ESRI article proposes:

    Higher earners can “afford” a cut in their earnings, but lower income earners have less ability to adjust as they work with tighter margins. There is a minimum amount of income required for any individual to function – people living close to this level suffer greatly with even a small decline in income.

    A 5% decline for someone earning €100,000 might mean no holiday or no new car, but a similar decline for someone earning €20,000 might mean not being able to pay your basic bills.

    Is this a valid point?

  20. Re revenue : I am not suggesting we trust forecasts but the actual hard data they have on who paid what on which heads of tax

  21. @Chris. It is NOT an invalid social point to make (for sure), but I dont agree that it changes my analysis. Which is – by making the economy even more dependent on top rate tax earners especially when (as has been pointed out) they are more mobile will actually mean we will have less people available to pay the top rate of tax which means we will be forced to broaden the tax base further to include lower paid.

    I would add just add a further comment relating to your example i.e. saying that taking €5000 from the €100k earner and €1000 from the €20k earner may not be fair – which by the way not what has happened, the % differences are even wider 2%-9% bottom/top:

    I saw some report (which I will try to find) which actually produced average (1) net disposable incomes (after mortgage payments and other ‘essentials’ are paid) (2) net asset declines – which revealed the €100k+ group being massively hit and more likely to suffer proportionately than the lower income group. AND I dont think new cars and expensive holidays are on the agenda for this group for the most part.

    Also the welfare system (one of the most generous in the EU) provides a better safety-net/reassurance to the lower paid VERSUS those who lose higher paid jobs who invariably will have higher non discretionary costs, higher bills, mortgages etc.

    The simple point is that our system is actually now dangerously progressive (by any measure) and this budget has made it worse i.e. more so AND we will witness the consequences of this over time as higher paid jobs dissapear +/or move to other locations!

  22. @Chris
    The graph shows relative changes, not absolute ones. For a utility function that is approximately logarithmic, that is an appropriate comparison.

    As to the basic needs idea, that is just rubbish in a rich country like Ireland. Poverty is relative to the peer group and to aspirations. On the first count, the poor just got less poor. On the second count, everyone suffers, but the rich suffer most.

  23. I’m not sure hiring more inspectors is the right call, but meetings should be had with the current ones to elicit suggestions on additional resources they could be provided with to allow the same cohort do more and better audits.

    If for instance inspectors are spending a large proportion of time on in-office paperwork, they should be granted administrative assistants transferred from other departments where programmes have been cut. It’s probably a lot quicker to get the AAs up to speed on the paperwork than training people to be inspectors, since experience is crucial to finding buried money.

  24. John15: I entirely agree with you on this point. Your government have hit the populous button for fear that they will be accused of bailing out the ‘rich’ and ‘property developers’.

    Sadly the approach you have taken will weaken the economy further. A marginal top tax rate of 52% is now high comparatively and of course there is still the fear of more to come in the form of stealth taxes for so called ‘wealthy’ such as means testing child benefits and property taxes. I dont see that high top rates of tax, rising capital taxes are compatable with being successful in attracting high value jobs to Ireland – the 12.5% tax is no longer sufficient.

    The only reason you can afford to have very low tax rates on the lower paid is because you have had high transaction related taxes which are now gone and higher earners which are going. This is a typical political response, it is short-sighted in nature and doomed to failure and will probably for the next government to fix, who can blame on their predecessors.

    KJ

  25. Totally agreed. The budget was a savage attack on the middle and higher paid PAYE sector.

    I will shamefully admit that I am in this top bracket and have a matching handsome 5yr fixed rate mortgage (3yrs left) which was sucking up 60% of my disposable income, this is now over 70% after the budget.

    And guess what Karl, I work for a foreign multinational and guess what I will be applying for a transfer to our head office (where my disposable income will hopefully get me back to where I was in Ireland last year)

    ALL hinges on convincing the wife to move now and finding a tentant for our house if not I will hand the keys to the bank.

  26. @ John D15,

    What’s the basis for the claim that Ireland’s is “one of the most generous in the EU”? If you mean the EU27 then I don’t think it’s that relevant. If you mean the EU15 I don’t think it’s true.

    As for the idea that we’re in danger of being “dangerously progressive”, dangerous how? Plenty of comparable countries have combined greater income equality than Ireland with successful economies (yes, I’m thinking of those social democratic Nordic utopias).

  27. I think the income distribution analysis and debate is extremely useful.

    The points made by Karl, John and others that the budget will lead to a mass exodus of higher earners is overstated in my opinion. First, this is an interim budget designed to start pluggin a hole immediately. We are expecting that the commission on taxation will deliver a more rounded approach in rebalancing our tax base. Second, without full in-depth comparisons of the tax regimes in competeing countries I think it is easy to jump to conclusions. Most regimes have many layers (tax categories, regional, city, property etc, compelexities, op-outs, additional taxes etc.). A person deciding to move on the basis of disposable income alone would need to compare ALL taxes, not just income. No much point in moving to a place with a 2 points lower marginal rate if there are stiff property taxes and higher indirect taxes.

    The point is, the picture is rather complex and I’m not sure if our budget puts us immediately out on a limb. I think the biggest factor that will send high skill labour abroad over the next five to seven years will be unemployment. The sectors mentioned – including say IT, Engineering, and Finance have been pretty badly hit.

    On the pull side of course will be the question of job prospects abroad.

    Leaving out the multinationals. What about middle-high income PAYE households in general. What is the definition here? What about a house where there is a teacher and an engineer. Total household income could be say 120k. Is that middle-to-high? (Figures from the INTO yesterday say the average male teacher salary is 63k). How many of these families are really going to emigrate because of the budget, given the falling cost of living and conditions abroad? Not many I’d guess if they hold their jobs.

    Finally, in the non-PAYE sector, a few friends of mine who are self employed say that over the boom their, shall we say, accounting practices became unusually lax. There was plenty of money, no need to be overly creative. One of them is now working with her accountant to minimise tax payments and reckons that a good 5 to 10 percent can be trimmed off it. Even if they only managed 3 or 4 per cent, and then costs fall another few percent, we arrive at a situation where they will find that all hell has not, after all, broken loose. (But by the way, this is why I back the calls to have more random tax inspeactions. There will undoudtedly be more willing to chance it now that the tax take is more painful)

  28. Tim

    Thanks for introducing this debate.

    Not sure that the application of your wage benchmark is that helpful in this analysis.

    Distinguishing two questions:

    – What is the direct impact of the budgetary changes across the income distribution?
    – What is happening – will happen – to the wider income distribution and/or to comparative living standards across the income distribution in this crisis?

    – both seem important but the 2% ‘wage benchmarked’ simulation doesn’t seem to give a very clear answer to either in this instance.

    On the first – your article says that the pattern you describe holds for the traditional benchmark of ‘no change in nominal values of welfare and tax parameters’. But as Colm McCarthy notes this broad pattern fairly obviously follows from the policy package and as you note in your reply to him the added value of microsimulation is ‘to get a firm grip on the numbers’. Except that we don’t here get the numbers for the budgetary impact per se and – given differences in wage share across the quintiles – I presume we can’t simply add or subtract the 2%.

    However neither do we get an answer to the second question. As various comments highlight, the 2% wage adjustment seems fairly arbitrary at this point and many other factors would need to be taken into account concerning which –if the comments here are anything to go by –there is little clarity as yet about direction of impact never mind magnitude.

    This thread clearly highlights the need for more analysis of distributional issues in thinking through the current difficulties.

    Equally it – intentionally or otherwise – confirms the need for explicit discussion of the normative questions that such work brings to light.

  29. @JohnD15 and KJ and others. As Tomaltach says it may well be that the fear of a mass exodus could be “overdone”. It is possible of course and I really I hope so. But personally I dont think so.

    Not only am I witnessing this trend at my ‘foreign shop’ but it does appear to be increasingly a very very common view made accross web (perhaps also mixed with a bit of wishful thinking), however I suppose we wont know for sure until a sufficient period has elapsed. If it accelerates remember also the problem is that it is not only about the higher value job drifting overseas, it is also the linked multiple less senior jobs which cant transfer as easy – so of course they just vanish to be created in the UK or elsewhere.

    By the way, not sure who made the point, but I dont think we include higher paid civil servants in this analysis as this is simply tax payers money to begin with i.e. it is an expense.

    @James – I agree it would be useful to see stats from JonD15 or someone else on other EU countries, but I would exclude countries such as, as you say, the scandi utopias rem. they also have significant natural resources and other indigenous wealth, whereas our wealth is either illusory (property related) or wholly dependent on our ‘low taxes’.

    Utimately even before I see the stats, the point on our levels of social welfare expenditure is simple – it is no longer affordable and defensible given deflation. As you probably know job seeker payments here are 400% higher than our nearest neighbour!

  30. @J Corcoran @John

    Any analysis you find on welfare will be meaningless. Although I see where you are coming from. The UK should be the comparator. But western EU countries do have higher welfare than Eire, such as my native Sweden, but here I can tell you Sweden has as a much much higher cost of living. Also wefare systems differ significantly accross the EU, for example in Denmark you can get almost €480 per week – but many onerous conditions attached and you dont get the same rent allowances nor is there single parent system like you – and you definitely cant sit at home watching Oprah every day. In France it is possible to earn up to €6k a month there, depending on your previous income levels.

    In the end due to proximity and similarities the UK should be the best comparison for your country. I live and work here now and job seekers allowance is 52k per week and you still have to pay your council tax albeit at a reduced rate.

    I pay at the top rate in London which when I include council tax (180 pm) and national taxes and national insurance I take home about c60% of my salary with allowances. Not exactly a tax haven, but it might be for the irish soon 🙂 also good point as JG says I dont think ‘tax’ is a selling point for the UK as it has been for Ireland. It seems that in Ireland it is also the fear that the 52% is on the rise aswell. So perhaps if your govt could commit to fixing the current rates, it may at least take away the fear factor. Assuming you believe your politicians, not.

    Finally I agree that your system is “dangerously” reliant on top incomes due to the concentration of that weath in evaporating sectors such as property, multinationals etc. But I would add that Ireland is not totally unique there, not that that should be an excuse to ignore.

    Have a good weekend

  31. Karl/I have no pb showing the analysis – albeit could take some time to bring it together. But believe me it will show that when all factors are considered our welfare system is one of the most generous in the EU AND now one of the least affordable. AND it does also include CEE countries aswell as Sweden – as it should. Because a significant % of foreign nationals availing of wefare in Ireland are from CEE states.

    Keeping with this theme see the attached which appeared in the Irish Independent on the 15th April. This may help to inform your perspective.

    “Irish Independent
    Wednesday April 15 2009

    I recently had a long conversation with a friend of mine who lost his job. He was in a reasonably good job and after a little bit of overtime was earning a gross salary of €35,000 per year.

    So I asked him the obvious question of how he was going to cope now with four children to feed and, I have to be honest, the answer startled me.

    He was actually a lot better off and now in a position to go out golfing every day while his children are at school.

    Frankly, I did not believe him until I sat down and did the sums. On a salary of €35,000, his annual net income after the mini Budget was €28,854, after all deductions.

    Now he is on the supplementary welfare allowance which — with a wife and four children — gives you €443.90 per week, or €23,083 annually.

    As he also has a mortgage, he is entitled to mortgage interest supplement which pays all the interest on your mortgage. In his case, this was €1,200 per month of his €1,500 mortgage, or €14,400 per annum.

    He is also entitled to back-to-school and footwear payment of €905 per year for four children, a medical card which is worth, on average, say €500 per year (probably more) and a heating supplement which I cannot quantify.

    In total, he now has tax-free income of €38,888, an increase in his net income of €10,034 per year for working on his golf handicap.

    Based on the calculations after the mini-Budget, you would need to earn more than €47,000 per year if you have four children to justify continuing to work.

    This is even before taking into account the costs of working, such as petrol, car maintenance, tolls, lunches and so on.

    Now in any civilised society, and especially in a society in a deep recession with a huge welfare bill, surely the government must give people an incentive to go out and work

    Making the child benefit taxable or means tested later this year is just going to make the situation worse and encourage more people to give up work and rely on the State to live.

    It could even drive our small economy to collapse as the welfare bill gets bigger and bigger as more people, including myself, ask: why should I bother to go out to work when it is basically costing me money to work?

    Unless something radically changes, I will be joining my mate on the golf course very soon.

    Andy McNamara
    Drogheda, Co Louth”

  32. Infuriating indeed. Big reform needed on social welfare urgently and not just by swiping child benefit etc from higher paid workers. When will the numbskulls running this country grow the balls to tackle this problem? It is not as if they could be more unpopular. Meanwhile the rest of us pick up the tab. Thanks for this.

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