Gavin Kelly

The Big Squeeze

The Big Squeeze
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The media pack is often blind to an impending political car-crash.  For instance, very few in Westminster, or the media, noticed the scrapping of the 10p tax band until the screech of twisting steel turned heads.

The same is happening now in relation to living standards. The media and political establishment are yet to wake up to the fact that working families in Britain are about to become poorer (though hat-tip to Allister Heath for being quick off the mark on this front).

The gathering wisdom is that, with the recession now behind us, household budgets will start to recover.  We have just published a new report – Squeezed Britain  – that paints a darker picture.  Due to falling real wages, households on low-to-middle income will be £720 poorer in 2012 than they were in 2009. These aren’t people losing their jobs; they are just losing their purchasing power. They’re facing what you might call a 'triple crunch': their earnings will rise at half their recent pace; inflation will stay high (and if the past is any guide, it will be higher for this group than for higher earners); and key state supports for working families will be cut back.

The reason this is such a big issue is depressingly simple: there are far more people in Britain on low-to-middle incomes than most people realise. 11 million working-age adults live in households on incomes of £12k-£30k. That’s one in three of the working-age population. They are not the poorest, indeed they are overwhelmingly in work.  But on those incomes, a pound lost here or there has a big impact – never mind a 2.5 percent increase in VAT. Over half this group have less than one month’s income in savings; two thirds have no pension. A typical first home now costs eight times their average income. No-one should be surprised that they already feel squeezed.

They will be hit hardest by the coming cuts to tax credits. In recent months, the liberal media have expressed outrage over Housing Benefit reforms, and much of the rightwing press has mourned the removal of Child Benefit from the affluent. But silence has greeted impending large cuts to tax credits – bigger in scale than either of those changes – and far more important to low-to-middle earners (who benefit by £1,500 per household on average). As these changes bite, just as real wages fall, they will not stay quiet.

The coalition and Labour will need to respond to these pressures. The great hope of Nick Clegg and David Laws is a £10k personal tax allowance. Right now, that’s an expensive, if not unattractive, solution and one that may strain their much-prized fiscal credibility. Meanwhile, Ed Miliband will have to decide whether to back those increased allowances, knowing that if he doesn’t he is likely to be outflanked.  But Labour also has his own big questions to answer, not least whether the role played by tax credits in the last decade can be repeated in the more fiscally constrained decade ahead.

Both sides currently miss a convincing account of how future economic growth can be shaped to better serve the interests of those 11 million. Lower taxes or higher tax credits may provide some respite, but in the long-term it will have to be stronger real wage growth that does the heavy lifting – and that means bucking the trend since 2003, when wages began to flat-line.

The challenge for each party leader as they consider the next election is coming into focus. By 2015 the clamour over cuts will have faded. By then, living standards will be front and centre. The test all parties will need to pass is the one set by Ronald Reagan in 1980, when he said to America’s families: “ask yourself: do you feel better off now than you did four years ago?”  The Coalition will be hoping that, for Britain’s families in 2015, the answer is yes.  Labour will need to have convinced them that they would make it so.

Gavin Kelly is Chief Executive of Resolution Foundation and a former Deputy Chief of Staff to Gordon Brown