Recession has brought loss and deprivation but inequality has fallen

 

ANALYSIS:Long-term unemployed or those seeking to enter the workforce for the first time may be the biggest long-term casualties of recession, writes BRIAN NOLAN

THE PROFOUND impact of the Great Depression of the 1930s on poverty drove the subsequent expansion of social protection systems and welfare states in the richer countries after the second World War. The international economic crisis since 2007 has been widely labelled as the “Great Recession”, but the effects on poverty and income inequality have been much more muted so far, as shown in a new study of 21 OECD countries.

For most of these countries poverty rates and income inequality have changed little so far, with households largely cushioned from the immediate effects of the Great Recession by benefits and other social safety nets. This could change, though, as countries seek to scale back public spending.

Ireland is one of six countries examined in depth in the study, and is distinctive in that the recession had the greatest impact on national output of any OECD country. With Tim Callan and Bertrand Maitre of the ESRI, I find that while many Irish households have seen significant real income losses and deprivation levels have risen, overall income inequality has fallen.

This reflects both the immediate impact of the crisis on the incomes households earn from different sources – employment, investment, pensions – and the response in terms of the tax and social welfare system.

Individual cases, however striking, can mislead about overall distributional effects so it is essential to focus on a representative sample of Irish households.

Household surveys available up to 2009 show that the share of household income coming from employment, self-employment or investment declined sharply since 2007, with a corresponding rise in social transfers. This had little impact for those towards the bottom, where much of the income already came from social transfers or pensions.

The share of income from employment fell most for those in the middle of the distribution, with a sharp rise in cash transfers. For those towards the top, income from employment was much more stable, but the share of investment income declined while direct taxes rose.

As a consequence the share of total income going to the top 10 per cent of the income distribution fell from close to 25 per cent before the crash to 23 per cent by 2009, whereas the share going to the bottom half of the distribution went up. (The share going to the top 1 per cent would not be adequately captured by survey data, but income tax statistics suggest a long-term upward trend before the crash, in Ireland as in many other rich countries).

The result was sharply falling overall income inequality, with the most widely-used measure of inequality, known as the Gini coefficient, falling from 0.32 in 2007 to 0.29 by 2009. The pre-crisis Gini coefficient for Ireland was above the EU-27 average of 0.30, similar to countries such as Spain, Italy, the UK and Poland; by 2009 it was lower than before the start of the boom (see graphic), indeed than at any time since such data first became available in the 1970s.

Relative income poverty vis-a-vis thresholds linked to average income also fell, not least because that average declined; a rare event.

On the other hand, poverty measured vis-a-vis income thresholds held constant in purchasing power terms rose, as did levels of deprivation.

Focusing on 11 deprivation items used in monitoring poverty in Ireland, the percentage reporting deprivation on two or more items rose from 12 per cent in 2007 to 17 per cent in 2009.

The economic crisis hit profits first; the impact of higher unemployment might take some time to work through, and the initial response to the fiscal crisis concentrated for the most part on increasing progressive taxes in 2008-2009, so the distributional effects observed to 2009 might not capture the full picture to date.

The study also sought to project forward to 2011, incorporating subsequent changes in key macroeconomic factors such as the level of employment and in direct taxes and social welfare. The results suggest that the broad distributional pattern observed to 2009 is likely to have been sustained through 2010 and 2011, with the Gini coefficient remaining well below its pre-crisis level.

While the budgets for 2010 and 2011 implemented cuts in social transfers for those of working age, they also further increased direct taxes, and the overall impact of tax/welfare changes since the crisis was still highly progressive, with percentage losses for the bottom 20 per cent being only about one-third of those for the top 20 per cent.

The cross-country study warns that an initial period of relatively broad consensus about how to respond to recession may give way to a new era of sharp distributional conflicts between, for example, rich and poor, old and young: this has some potential resonance for Ireland.

A striking feature of the recession to date, not only in Ireland but also elsewhere, is the extent to which elderly peoples incomes have been protected, at least relative to other parts of the population.

Those in the workforce will carry the burden of substantial extra taxation, and those who invested in the property market towards the height of the boom with borrowed money have to deal with negative equity, but the young unemployed or those seeking to enter the workforce for the first time may be the most seriously affected in the long term.

While some design flaws in the social welfare system that can serve to discourage work need to be addressed, those transfers will remain key to supporting the living standards of those who cannot obtain employment in such a weak labour market despite their best efforts.

The distributional implications of reduced spending on public services will depend on the precise nature of the cuts but could prove highly divisive as well as damaging to those who have no choice but to rely on publicly-provided services. The fact that welfare states have proved remarkably responsive in ameliorating the immediate impact of the Great Recession needs to be recognised but cannot be a basis for complacency.


The Great Recession and the Distribution of Household Income, ed S Jenkins, A Brandolini, J Micklewright and B Nolan for the Fondazione Rodolfo DeBenedetti, Milan. http://www.frdb.org/upload/file/report_1_palermo.pdf

Brian Nolan is principal of UCD’s College of Human Sciences

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