Mark Drakeford argues that devolution of National Insurance would be preferable to income taxJanuary 28th, 2013
There is much to admire in the first report of the Silk Commission. It provides an elegant and comprehensive review of those options which would link the spending of public money by the Welsh Government more firmly with the way in which that revenue is raised.
However, doubts have been raised already as to whether the Commission’s preferred way forward – devolution of responsibility for raising income tax in Wales – will prove effective in practice. To put it at its least provocative, there are concerns that the devolution of powers over income tax may turn out, in practice, to be devolution of powers which simply cannot be used. Faced with a highly porous border, a Welsh Government may find itself obliged, annually, to consider the prospect of amending income tax rates in Wales only to conclude that it would be impractical to create a divergence with the rates in England.
Tomorrow, Alan Trench outlines tax powers for Scotland, Wales and Northern Ireland he says can strengthen the union
Buried away in the detail of the Report, however, is an alternative possibility which Silk considers and rejects. The devolution of National Insurance, as opposed to income taxation, is one which, I believe, merits further consideration.
Silk rejects this course of action because, it concludes, “there is an intrinsic link between contributions and the National Insurance Fund which funds social security benefits” (page 90). This is certainly the orthodox Treasury line. In fact, the position is a good deal more contestable than the Silk Report allows. Across a very wide range of opinion, the National Insurance Fund is regarded as a fiction. The Fund, as an actuarial entity, disappeared as long ago as 1957 when the then Conservative government quietly but radically abandoned the Beveridge principle that contributions would accrue within the Fund, in order to meet future liabilities. Instead, it opted for a pay-as-you-go approach.
The Fund operates now as it has done for over half a century. Today’s benefits are paid, not out of contributions built up over a lifetime, but by the contributions made, here-and-now, by today’s workers. To quote the eminent academic Professor John Hills, of the London School of Economics:
“… there is little link between contributions and benefits, either at the individual or the aggregate level, and the links that exist are incomprehensible to most. Contributions are not in reality earmarked, and there is no truly separate National Insurance Fund. If people are less unhappy about paying National Insurance than income tax, that is more a product of folk memory than of current reality.”
Nor is such a conclusion confined to academic circles. Right across the political spectrum there are voices which challenge the Treasury’s view that the Fund continues to exist. The Taxpayers’ Alliance, for example, have argued that:
“… the national insurance fund is little more than an accounting fiction.”
The highly respected Institute for Fiscal Studies has long concluded that the Fund is so much more virtual than real that it merits abolition. Shortly before Christmas the TUC published a policy paper calling for the restoration of a genuine National Insurance system, and for the reinstatement of the National Insurance Fund as a genuine pot of money, “rather than a fiction used to raise taxes.”
The conclusion I draw from all this, is that Silk was over-hasty in accepting the Treasury contention that National Insurance contributions could not be devolved to Wales because of their link with the non-devolved social security system. The political difficulty of persuading the Treasury (ever the judge and jury in its own causes) to change its mind may be very real. But from an economic policy perspective, National insurance contributions are simply another form of income tax and, as such, a proper candidate for devolution of responsibility to Wales.
What is the case for such a devolution? I believe it is essentially twofold.
In the first place, devolution of employee National Insurance contributions (a possibility which Silk chooses not to consider in any detail) would allow a future Welsh Government to make their payment more progressive. Employee National Insurance contributions are paid at 12 per cent on earnings between £107 and £817 per week, but only at 2 per cent on earnings above that. Little wonder, then, that George Monbiot, echoing many others, recently referred to NI as “the UK’s most regressive form of taxation”.
The think tank, Compass, calculate that if the current cap on National Insurance contributions was removed it could raise as much as an additional £9.1 billion annually across the UK. The ability to ensure that the better-off are treated, for NI purposes, in the same way as someone earning the minimum wage has a progressive potential which would be welcome in Wales.
In the second place, such a devolution would offer a future Welsh Government an opportunity to use targeted National Insurance relief to employers prepared to create employment. The Silk report has positive things to say about this possibility. It cites evidence from major tax advisory firms which suggested that such powers would be an attractive tool to encourage growth in the Welsh economy. Its conclusion, however, that the UK government should give further consideration to geographically differentiated adjustments, such as employer National Insurance Contribution holidays, is weak and certainly takes the matter beyond the responsibility of the National Assembly.
Better, surely, to place the power directly in the hands of the Welsh Government so that they could be deployed in a more sophisticated way to meet the particular needs of Wales. As part of an effort to rebalance the economy, for example, targeted, time-limited National Insurance relief for employers could be used to reward the creation of manufacturing jobs, with the costs offset by the increased income tax receipts. It might also be deployed to give targeted relief to employers who take on young people under 25, or those who have faced particular barriers to securing employment.
It could be used as a tool in the Welsh Government’s distinctive development of sector-specific Enterprise Zones. The flexibility of National Insurance as a means of supporting economic policy is one of its real attractions, and a considerable contrast with the blunt instrument provided by varying income tax.
In a year when the Silk proposals will receive the detailed and serious attention which they certainly merit, my suggestion is that they may well overemphasise the practical limits to the devolution of National Insurance and underestimate its practical potential to be used to further the economic interests of the people of Wales.