Inequality and the insurance value of transfers across the life cycle

Context and motivation

The provision of 'social insurance' (the benefits governments pay to those who are ill, unemployed, disabled, poor or old), accounts for more government expenditure than any other category of public spending. This social insurance is potentially valuable to all households, not just those receiving those benefits at a given point in time. It ensures that, should households find themselves in difficult circumstances, they will be shielded from extremely low living standards. However, the provision of social insurance also brings costs. These costs are both direct (e.g. the financial cost of the transfers) and indirect (e.g. the provision of benefits reduces the incentives to work and save). Balancing these costs and benefits is a challenge for policy-makers.

As governments seek to manage the rising costs of providing social insurance and achieve their redistributive objectives in the context of rising inequality, robust evidence is needed on the effects of taxes and transfers on the behaviour and well-being of households.

Aims and methodology

Our proposed research will develop and test models of household savings and labour supply to evaluate how reforms to social insurance schemes would impact household behaviour, household well-being, inequality and the public finances.

A central challenge is to develop and apply a methodology that can robustly estimate the extent that household behaviour changes when policies change - including both past and potential future reforms. To do this we will develop 'lifecycle' models which link household decisions (such as saving, labour supply, participation in social insurance programs, and intergenerational transfers) in each period with their well-being in that period and their consequent opportunities (and well-being) in future periods.

Our models will innovate substantially over those found in existing work, both in terms of their scale and the range of policies whose impact they will be used to quantify. Importantly, this will allow us to study complementary policies in a coherent framework, rather than in isolation. For example, we will examine how public pensions and private pension subsidies interact, and in considering reforms to retirement provision, we will jointly consider the public and private pension systems (rather than separately, as has been the case in previous work). This state-of-the-art methodology brings with it substantial data requirements and large computational burdens, which we will overcome by building on previous ESRC investments at the Institute for Fiscal Studies. We will use new and little-exploited linked survey and administrative data as well as frontier computational methods and computer investments to estimate these models.

Applications, benefits and impact

Our ultimate aim is to allow policy-makers and the broader user community to better understand how household behaviour responds to government policy on social insurance. The questions that we will answer include:
- How should the generosity and the structure of the state pension system respond to demographic pressures?
- What are the effects of provision of disability benefits on labour supply and on the health outcomes of those who receive them?
- Why do retired households maintain their wealth into their oldest years rather than spend it? How would changes to inheritance taxation change this?
- To what extent are inheritances (and the prospect of future receipt of inheritances) affecting household saving behaviour and inequality?

We will maximise our impact by producing a range of outputs that will communicate the results to diverse audiences. In addition to a series of academic articles that will be submitted to top economic journals, we will produce a number of non-technical reports, accompanied by press releases, that summarise the key findings directed at non-academic audiences (journalists, policy-makers and other non-academic users).

Those who will benefit from this research fall into three categories: i) policy-makers (and those ultimately affected by policy), ii) the broader user community (private sector, third sector and the media) and iii) academics.
Here we discuss how they will benefit from this research:

i) Policy-makers (and through them, those affected by the policy-making process).

The type of work that we propose is seldom undertaken within government in the UK, but the output from our research will be of value to the policy-making process. It is vital therefore that outside researchers both carry it out and carefully communicate the results. We will do just that.

The evidence that we will provide is of two types. The first relates to the reform of particular policy instruments. For example, what effect would changes in inheritance taxation have on household behaviour? Evidence of this type is clearly useful to policy-makers with responsibility in these areas. The Dept. for Work and Pensions (whose remit covers disability insurance and public pension policy) and HM Treasury (who have responsibility for taxation) are the key agencies here. The IFS has excellent links with officials in both departments, including with the team at HMT that have recently started to use a lifecycle model for policy analysis.

The second type of evidence relates to questions of context. For example, what role have inheritances played in propagating inequality between cohorts and what role can we expect them to play in the future? This type of finding adds to the evidence base that facilitates the making of policies more generally (including those not covered by our research).

We anticipate that our findings will reach policy-makers in two ways. The first is through direct communications (through seminars, meetings with relevant departments and our non-technical outputs). The second is that it will feed into IFS work more generally. IFS staff regularly respond to government consultations, publish an annual survey on the public finances (the IFS 'Green Budget'), are often invited to give evidence to parliamentary committees (Crawford was invited before the Treasury Select Committee recently and French gave testimony to the US Long Term Care Commission in 2013) and are often asked for meetings by relevant teams in government departments. These interactions are always informed by the best academic evidence, including that produced from within the IFS.

Our ultimate aim is, of course, to positively contribute to better policy-making and to improve household welfare as a result. We will maximise the chance of achieving this by engaging constructively with policy-makers on an ongoing basis about our research.

ii) The broader user community

This research will be of benefit to private sector organisations who provide pension and insurance products to households, and to charities with an interest in household finance and wellbeing. The research team currently have regular contact with a number of such organisations through the 'IFS Retirement Savings Consortium' (members currently include HM Treasury, HMRC, The Association of British Insurers, The Investment Association, The Chartered Insurance Institute and Age UK) that co-funds (with the ESRC) and advises on a programme of IFS research.
These organisations typically do not have the ability to use complex data, or extract lessons from the academic literature as readily as IFS researchers and associated academics. Hence, they benefit from our clear communication of our work, just as we benefit from their input which ensures that our work remains relevant to private and third sector priorities.

iii) Academics working in the same area (and future academics training to work in this area)

We give a full account of these under 'Academic Beneficiaries'. Here we restate that the work will push forward the research frontier, and we will actively engage with other national and international experts.