Living standards, poverty and inequality in the UK: 2016–17 to 2021–22

Andrew Hood and Tom Waters, Institute for Fiscal Studies
2nd Mar 2017

This study highlights projected changes in household incomes between 2014–15 and 2021–22.

Official economic forecasts predict slow earnings growth and rising inflation over the coming years. Combined with planned tax and benefit changes, this is projected to lead to modest growth in average (median) income but no growth in income for low-income households, and rises in child poverty.

This study projects how the incomes of different households would evolve for each year up to 2021–22 if the current tax and benefit policy plans are kept to, and if the macroeconomic forecasts from the Office for Budget Responsibility (OBR) were correct. In the context of macroeconomic uncertainty, it also considers the sensitivity of the outlook to the forecast for earnings.

Key points

  • Real median income is projected to grow by 3.8% between 2016–17 and 2021–22, but this projection is highly sensitive to future pay growth. If average earnings grow one percentage point per year faster or slower than the OBR expects, the authors’ projections for real median income growth between 2016–17 and 2021–22 are 6.8% and 1.0% respectively.
  • Median income in 2021–22 is projected to be more than 15% lower (equivalent to more than £5,000 a year for a couple without children) than if income growth since 2007–08 (the start of the Great Recession) had been in line with the long-run trend.
  • Real earnings growth tends to benefit high-income households more than low-income households, and planned cuts to taxes and working-age benefits would reinforce this pattern. Hence for the worst-off 15% of households, real incomes after deducting housing costs (AHC) are projected to be lower on average in 2021–22 than in 2014–15.
  • Absolute poverty is projected to decline slightly overall from 20.3% to 19.8% between 2014–15 and 2021–22. But the authors project that absolute child poverty will rise from 27.5% to 30.3% over the same period. This increase is entirely explained by the impact of tax and benefit reforms over this parliament, which are set to hit low-income households with children relatively hard.

Background

Between 2007–08 and 2014–15 (the latest data available at the time of writing), real median income in the UK grew by an average of only 0.3% per year, as real earnings fell sharply in the aftermath of the Great Recession, and then recovered slowly. Since earnings are a more important source of income for higher-income households, this led to both inequality and relative poverty – defined as the proportion of those with an income of less than 60% of the median – falling over the period. Absolute poverty (defined as the proportion of those with an income of less than 60% of the 2010–11 median) also fell, partly due to increases in the generosity of benefits between 2007–08 and 2011–12.

The authors project changes in household incomes between 2014–15 and 2021–22. In light of the heightened level of uncertainty over future economic growth, they show the sensitivity of their projections to ‘high’ and ‘low’ earnings scenarios, where average earnings grow one percentage point faster or slower than the OBR expects.

Median income

The authors project that if the OBR central forecast is correct, real median income will not grow at all over the next two years, and will be only 3.8% higher in 2021–22 than in 2016–17 – equivalent to growth of 0.8% per year, less than half the historical average.

This projection is sensitive to the prospects for earnings, with real median income growth between 2016–17 and 2021–22 of 1.0% and 6.8% in the low and high earnings scenarios respectively. However, even in the event of unexpectedly strong earnings growth, average incomes in 2021–22 will still be much lower than one might have expected back in 2007–08: median income in the high earnings scenario is projected to be 16% lower in 2021–22 than if income growth since 2007–08 had instead been in line with the long-run trend (equivalent to £5,100 per year for a childless couple, and £7,200 for a couple with two young children).

Inequality

Figure 1 shows the projected change in real AHC household income between 2014–15 and 2021–22, with and without this government’s planned or implemented tax and benefit reforms. Importantly, inequality is projected to increase even without reforms. Benefits would have risen in line with prices, while earnings increased in real terms – which tends to benefit higher-income households, who get a larger share of their income from earnings, more than those towards the bottom of the distribution.

However, government reforms are projected to increase inequality further. Reforms are projected to slightly increase incomes in the top two-thirds of the distribution – driven by rises in the personal allowance and higher-rate threshold – and more substantially reduce incomes in the bottom third, mainly due to cuts in the real value of benefits. This results in a projected fall in real AHC incomes in the bottom 15% of the distribution.

Poverty

Figure 2 shows overall and child absolute poverty measured after housing costs have been deducted. There are two things to note from this chart. First, because growth is projected to be low or negative at the bottom of the income distribution, absolute poverty falls only slightly, by around half a percentage point. Without reforms to taxes and benefits, the fall would have been around double that. Second, the outlook for low-income households with children looks significantly worse, with a 2.8 percentage point projected increase in absolute child poverty between 2014–15 and 2021–22. This is entirely driven by planned tax and benefit reforms.

The poverty projections are less sensitive than average incomes to which earnings scenario is used: between the high and low scenarios, the absolute poverty rate in 2021–22 varies by only 1.7 percentage points. This reflects the fact that other sources of uncertainty are more important for poverty, including future government policy, inflation, employment growth and its distribution, and the distribution of earnings.

Conclusion

Any projections relying on macroeconomic forecasts come with substantial margins of error, particularly when the macroeconomic and policy environment is as uncertain as it is now.
This study highlights one important source of uncertainty among many – the future path of real earnings. What is notable, though, is that even in the high earnings growth scenario, real median income growth is below its historical average between 2016–17 and 2021–22, overall absolute poverty falls only slightly, and absolute child poverty increases.
While other sources of uncertainty could be resolved favourably for poverty and living standards, it is clear that slow economic growth will provide a challenging context for any attempt to increase living standards and reduce absolute income poverty.

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About the project

The authors take the latest data used to produce official income and poverty statistics (Family Resource Survey 2014-15) and adjust this data for relevant known and forecast changes – for example demographic and labour market trends, and changes to tax and benefit policy – to create a projected distribution of household incomes in each year up to 2021–22. For further details, please see the full report on the IFS website.