Economics 06/12/2009: Replacement rates for Irish social welfare payments

Department of Finance has published (unnoticed by most) its estimates of the replacement rates for Irish Social Welfare system. Per DofF, any replacement rate in excess of 70% is problematic, as it creates significant disincentive for the recipients to seek reentry into the labour force. Well, yes. I agree.

However, what DofF fails to recognize in its estimates is the fact that welfare recipients avail themselves of free healthcare (medical cards) and subsidized drugs scheme, plus, having no jobs to attend to, they do not have to spend a penny on childcare.

I have updated the DofF own estimates to reflect these costs wherever they apply and this is reflected in the table below which also reproduces DofF own estimates.

Effective wage in my estimates refers to the earnings that must be attained in the workplace in order to supply the same level of real income as provided by social welfare. My estimate is based on DofF replacement rate estimates, plus additional benefits as outlined in the footnote.
Telling picture. For a country with average income of ca €25,000 per capita, we are talking about virtually all groups of welfare recipients, case-studied by DofF, getting more on welfare than in average employment.

Red-bold cases are clear welfare traps with replacement income in excess of 70% relative to reference group.

Economics 14/08/2009: Irish welfare rates - Part II

I grew tired of, honestly, of the bull surrounding the OECD stats on social welfare. So I crunched through the data, available from their database on the subject. The link to this data is here.

Tables below rank Irish welfare payments as per the percent of the Average Production Wage (average wage in manufacturing for production & maintenance workers). Rankings are given for EU and OECD as a whole, comparing these in 2001 and in 2007 - the latest year for which data is available.

First Tables:

So, of course, 1 above refers to Ireland being ranked the country with the highest level of benefits for the specific type of welfare assistance or unemployment assistance received.

That is bad enough? Oh, I also looked through the OECD methodology. And what I found confirmed exactly what I was saying before in yesterday's post:

• Only cash incomes are considered, so no in-kind benefits, e.g health cards were factored in;
• Average wage was not accounting for childcare costs despite welfare recipients having that taken care of;
• Only income taxes and own social security contributions, so no health levy was factored in;
• Housing costs, childcare costs and any other forms of “committed expenditure” are not deducted when computing net incomes. Nor are they counted on the 'income' side as benefits-in-kind for welfare recipients;
• As benefits included in the calculations exclude benefits “in-kind”, free school meals, subsidised transport, free health care, etc. are not included. Occasional, irregular or seasonal payments (e.g. for Christmas or cold weather) are not included. Also excluded are benefits strictly related to the purchase of particular goods and services (other than housing or childcare as described below), reduced price transport or purchase of domestic fuel or the purchase of medical insurance and prescriptions;
• Cash benefits excluded are: old-age cash benefits, early retirement benefits, childcare benefits for parents with children in externally provided childcare, sickness, invalidity and occupational injury benefits and benefits relating to active labour market policies;
• Subsidies for the construction of housing, purchases of owner-occupied housing, subsidies for the interest payments on owner-occupied housing, and other similar payments are not included. Similarly, the assumption of living in private rental accommodation means the benefits in kind provided by social housing, usually involving rents below the market rate, are not taken into account in the comparative tables;
• It is assumed that families live in privately rented accommodation and the level of rent for all family types regardless of income level and income source is 20% of the gross earnings of an average production worker. In Ireland today this means that OECD figures only account for maximum of €565 per month per household. Real levels of subsidy in Dublin would require a minimum of €750-800 pm for one bedroom property and over €1,000 for two-bed rental (Daft.ie figures on rental properties). Thus OECD underestimating Irish welfare recipients' housing assistance by a factor of 2.

Taking into account these omitted variables, my figures from the earlier post show that pretty much anyone working in lower grades of all sectors in Irish economy would be better off on social welfare.

I stress, again, that my assertion concerns people on social welfare. It does not cover people on unemployment assistance.

Economics 14/08/2009: Irish welfare rates and the tragedy of poverty

On last night's RTE Prime Time I referred to the OECD 2007 report that shows Ireland having the second highest welfare rates in EU27 (and the third highest in the OECD).

Here is the link to the report.

Here is a chart from the report:
Here is an excellent article on the report.

And here is my follow up analysis.

The OECD data was in the range of 2005-2006. Since then:

• Taxes on work in Ireland increased substantially
• Wages have declined in 2007-2008
• Earnings other than wages (overtime, bonuses, commissions) also have fallen
  
• CPI has dropped in July 5.9% yoy and HICP fell 2.6% yoy

So after tax returns to work have declined rather significantly in real terms - a good deal 10-15% for an average wage earner, depending on the sector.

In the mean time,

• Welfare rates have gone up (since January 2009) by 3% nominally, or between 5% and 8% in real terms;
• Indirect benefits rose in real terms, as rents fell off the cliff and not all these savings were passed on to the Exchequer - some of these savings could be easily 're-distributed' between assistance-receiving tenants and the landlords;
• Black /gray cash economy is thriving, providing additional earnings to some welfare recipients; and
• Costs of services to those of us in employment that are free to welfare recipients have gone up, implying a rise of benefit to the welfare recipients.

But let us be clinical about this. I did an balance-sheet analysis before on current (post-April 2009 Mini-Budget) after-tax earnings here.

Our replacement net of tax wage - equalizing the value of benefits obtained by the welfare recipient (in the case of my model - single parent with one kid) to make them even with the wage earner - now stands at €31,102.

The above figure is not inclusive of Income Taxes, Income Levies, PRSI and Health Levy contributions exacted by the state off those working. So let us add this to the numbers above.

For PAYE:

• Health levy adds 4% on all earnings below €75,036;
• PRSI levy adds another 4%
• Income tax and Levies (here) - €31,102 after tax is consistent with the pre-tax earnings of €39,870pa
  

Replacement wage for PAYE (inc PRSI and Health Levy): €43,059.60.

For Self-Employed person:

• Health levy adds 3.333% on all earnings below €75,036;
• PRSI levy adds another 5%.
  

Replacement wage for Self-Employed (inc PRSI and Health Levy): €43,191.17.

If we are to recognise that a self-employed person has to cover some of the costs of their work out of pocket, say 25% of the net revenue received in income (a conservative assumption if you need to operate some equipment, run a van etc), a self-employed person working in this country would have to generate around €54,000 in revenue in order to come close to breaking even with a welfare recipient!

Comparatives: Pre-tax average wages by sector (for All workers and for lower grade of P&M Workers):

• Industry: All employees = €42,078 pa (-€981pa relative to a welfare recipient), Production & Manual Workers = €34,507 (-€8,552pa);
• Mining & Quarrying: All = €40,435 pa (-€2,624pa), P&M Workers = €36,878 (-€6,181pa);
• Manufacturing: All = €41,184 pa (-€1,875pa), P&M Workers = €33,675 (-€9.384pa);
• Electricity, Gas & Water Supply, Waste: All = €55,286 pa (+€12,227 pa), P&M Workers = €46,592 pa (+€3,533pa);
• Financial & Insurance Services: All = €56,742 pa (+€13,683pa), P&M Workers = €34,445 pa (-€8,614pa).
• Minimum wage earners €17,992 pa (-€25,068pa worse off working than being on welfare).

So here we have it - our incentives to work or choose welfare.

Now, there are many studies out there doing international comparisons of pensions and other benefits across the EU.

Majority of them count a particular benefit alone and disregard in-kind payments and other assistance, such as housing allowances, rent supports, bills assistance, lack of apartment maintenance fees, etc. Majority of them disregard the fact that a working family has to pay its own healthcare costs in this country on top of paying taxes to cover our public health services. Or that we pay for child care, while our welfare recipients do not. Or that we pay to commute to work, that we also pay more for our food, because we do not have the luxury of eating all our meals at home. This makes these comparisons extremely stylized.

Another example is Eurostat adjustments of welfare supports for PPP differentials. This is suspect practice because PPP refers to HICP inflation adjustments and exchange rates differentials. However this presents several problems in comparing welfare benefits baskets in Ireland with the rest of EU:

1. We have many more non-rates benefits (housing assistance, healthcare cards, etc) not reflected in HICP;
2. We have larger relative share of imports in welfare consumer basket of goods than larger countries of the EU, so stronger Euro here buys more for our welfare recipients than it does in the rest of the EU, even after we adjust for nominal exchange rates;
3. In most of the EU there are caps and declining scales of benefits. Not in Ireland, where a life-long benefit is available at a flat rate irrespective of the person's ability to work, health status and duration on benefit; and so on.
   

Methodology is important.

The real tragedy of Irish welfare system is that we tend to lump together people on unemployment benefits with:

• long-term welfare recipients (often generational ones) who are able-bodied working age adults; and
• long-term disability aid recipients.

This is simply immoral and wrong economically. They are not the same. Unemployed seek employment. Welfare recipients do not. Elderly and disabled have a real claim to make on the society for help - they deserve it and they should not be stigmatised for this assistance. Those who can work, but choose not to have no such claim to make.

Our unemployment assistance rate is below our long term welfare rates. This is farcical. It is an incentive for some to move off unemployment roster and out of the labour force. But it also fails to recognise that people who find themselves in unemployment have some consumption commitments that are reasonably based on their prior income (so these commitments are not some extravagant spending of the past) and have to be met. The long-term social welfare recipients have a steady income instead.

From my point of view, the real problem is that we are paying a number (no one can tell us how big it is) of people who made it their career to milk the taxpayers. I have no problem with helping those in real need of help - the elderly and those with severe disabilities. And I have no problem with providing a safety net for those who pay for it through taxes.

But I have significant issue with seeing perfectly healthy individuals not working, while many people with real disabilities are leading productive lives, ordinary families taking their hard earned cash and sending it the way of those who never intend to contribute to the society.

High cost of social welfare is economic (lost jobs and lost investment due to high tax burden, discouraged younger workers and so on), but first and foremost it is social. The latter manifests itself in a culture of entitlement developed in the mindset of our long term welfare recipients and their advocates.

How many times do we hear that welfare recipients are

• poor (see figures above to show that they are not);
• never gained from the Celtic Tiger (welfare provisions increased between 97% and 110% since 2000 alone);
• neglected by the society (welfare costs have risen from 8% of our GNP in 2000 to over 13% in 2009 and this does not include massive indirect transfers from the private sector through schools allocations, sports grounds, community facilities etc); and
  
• ignored by private sector growth (there is a deeper question to be asked here in return: Why should someone who never worked in their life be entitled to benefit from the wealth and income created by the sweat and labour of others?)
  

Welfare spending now accounts for over 70% of the annual Exchequer tax intake. It is more than 37% of our current expenditure bill. This is not sustainable.

An argument that NAMA funds can be better spent on social welfare supports is a fallacy, for there are no NAMA funds. We will have to borrow to finance both. If we are to borrow to retain current welfare spending, some €5bn per annum in fresh debt will have to be added to our own and our children's obligations.

A simple math - through 2013, doing nothing on Irish social welfare spending will cost us additional €23bn in debt we will have to pay down in the future. Scared? If unemployment remains at the levels we are seeing today through 2015-2018, this bill will rise to €44-61bn, once interest payments on the requisite bonds are factored in.

That is a disaster on the same scale as NAMA.

Instead of strengthening the fabric of our society through providing a real safety net and real help to those who cannot contribute to this society through work due to age or health reasons, by having this lavish welfare system with a maze of benefits supplied on the unlimited life-long basis, we are actually destroying the moral state of Ireland. That is the real cost of our welfare-as-entitlement industry that is still thriving in this recession.

What should be done?

We need serious reforms of the welfare system in the long run. I will write about this at some point in the future. In the immediate term, we need:

• a cut in welfare rates of 12% for all able-bodied long term welfare recipients, bringing the rates below the unemployment assistance rate;
• a system of two-tier old-age pension: one basic rate for all, set at 1/2 of the current rate, and a second, top-up rate for those who pass means testing (the second rate to be set at 1/2 of the current rate) - on the net, poor pensioners will be guaranteed current level of benefits with no change, while wealthy pensioners will see a cut in their rate of 50%;
• ensuring that no public worker retired on full public pension benefits is in receipt of the old-age pension allowance - at either rate stated above. There should be no double pension allowance;
  
• a 3% reduction in unemployment benefit to reflect the fall in HICP;
• enforcement of the rent support scheme to extract savings, generated in the private sector on falling rents;
• introduction of co-pay on hospital visits for welfare recipients to reduce use of emergency rooms as their primary care physician access.
  

This really is a basic starting point for restoring sustainability to our public finances. No matter how you turn the arguments about welfare system around, it has to be done!