The Coming Storm: Maintaining Employment through the Recession

by Professor Paul Gregg, University of Bath 

Lockdown creates a massive hit to the economy but it is the post-lockdown level of activity and in particular levels of financial distress for firms in the labour-intensive (lower productivity) service sector (hospitality, leisure, non-food retail etc) that will determine peak unemployment levels at the end of this year. As highlighted, open unemployment would have been likely to rise from 4% pre-COVID, to 14% without further policy intervention. However, the government has recently announced both a relaxation of 2-metre rule which will help pubs, restaurants, and leisure services to trade more effectively when they open and a plan to bring forward infrastructure spending. Although how quickly this will kick in is less clear. These two measures may well limit the GDP fall (to say 6-7% in the second half of this year) and hence the rise of unemployment could be limited to something more like 12%.

There are three major areas of policy intervention that a government facing a jobs crisis can do. Action at the macro-level to support jobs such as the Job Retention Scheme and also interventions focused on helping individuals which can be broadly split into a) education and skills and b) active labour market policies, though they can overlap. This post discusses the macro-level interventions needed to support jobs.

Macro-Level Support for Jobs

Governments facing a major economic downturn will try to stabilise the economy by pumping resources into the economy through maintaining incomes and hence consumer spending, helping businesses survive the crunch, helping firms to hold onto workers and direct spending. The mix of these should depend on the nature of the crisis being faced, as all recessions differ. The banking crisis on 2008/09 meant that available credit to firms and households dramatically dried up hitting spending both by firms and consumers. It also drove a sharp devaluation of Sterling which helped firms who exported or competed with imports from abroad but pushed up prices further squeezing spending by consumers. Trying to ease this by cutting VAT and hence prices to support consumer spending thus made sense.

This time the problem is not a hit on spending because of a credit squeeze and rising prices, but because of social distancing meaning we are not travelling, going to pubs and restaurants etc. Cutting prices by cutting VAT is clearly not as attractive this time around as prices are not a cause of the spending problem. Further, any consumption boost will include imported goods and hence will not be fully targeted on employment in Britain. A VAT cut is not appropriate for this recession. The obvious alternative is to cut employers’ National Insurance (NI) payments to make employing people cheaper, thus preserving jobs and potentially boosting vacancies when the recovery starts. However, this not well targeted on sectors in most distress or in the areas which are likely to employ the young and relatively low skilled labour who are most at risk of job loss.

There are four more coherent responses, one of which the government has already done and another it has started but could do much more:

First, the key step taken so far has been the relaxation of the 2-metre rule allowing pubs, restaurants etc to operate with 1-metre social distancing. This allows the hardest hit sectors to trade more effectively from tomorrow onwards. This has three key features which make it important. First, it addresses the block on consumers in the way that a VAT cut doesn’t. Second, it eases the financial pressure of firms and, third, it is targeted on the labour-intensive sectors currently at high risk. This measure alone could well have reduced peak unemployment at the end of the year from 14 to 12%.

Second, the government has also announced the bringing forward of £5 billion pounds of infrastructure spending. This is sensible policy making as it boosts activity, and infrastructure spending has substantial multiplier effects on the rest of the economy. £5 billion is not very much, however. Spending on repairing roads has the advantage of getting started quickly but more green action would be a programme of green energy production such as solar and where appropriate wind power on public buildings, again quick to get started. Much larger investments (offshore wind farms / tidal power) in green energy take far longer to get moving but have similar multiplier effects into the wider economy. The government should be looking at something more like an extra £40 billion of public infrastructure investment spend over the next two years.

The third element of a jobs recovery package would be incentivising firms to keep more workers on part-time contracts, minimising the long-term impacts of scarring from spells out of work. As businesses can re-open, the full-time furlough becomes redundant and the part-time option that is allowed from July should be the only attractive option. This represents a form of short-time working. As proposals stand, firms start paying employers NI and pension costs from August. They also have to start paying 10% of the furloughed wage in September and 20% in October. This then amounts to 35% of the furloughed wages in total. Under part-time (half time) working, this is around an extra 3% in August, rising to 12% in October, in wage costs per hour worked. This is at a time when they are up against the wall, financially.  It seems unlikely that many will be using this option by the end of September. Rather they will retain some workers to normal hours and lay off the rest to cut costs.

There are two simple alternative tweaks to the part-time furlough scheme to encourage firms to hold onto more staff.

The first is to make government support for furloughed staff capped at a fixed contribution irrespective of full- or part-time furlough status, rather than a proportion of the furloughed wage. The governments contribution to a full-time furloughed worker will fall to 65% of £2000 per month in October or £1300 pm on average (80% of £2500 is the current limit of government support and some workers receive less but it is also supporting employer NI and pension costs) and the firm £700. For a half-time worker this is £650pm and £350 respectively. So a single capped fee of £1000 pm would make full-time furlough far less attractive and part-time correspondingly more attractive. On this basis, the cap could be £1800 in August, £1400 in September and could continue to decline in November and December before ending completely in January.  Such a move would push the wave of redundancies of furloughed staff from the end of August till the end of October or later allowing firms more time to get to grips with the new normal.

The other alternative is for a retention bonus payment to be made for workers still employed by the firm at the end of January. For example, a fixed payment of say £2000-£5000 per furloughed worker could be paid on the condition of the employment continuing for 3 months after the regular payments stop in October if 100% of all workers are still with the firm. At 95% the bonus would be halved and 90% there would be no bonus. Firms would then have strong incentives not to let workers go but to keep them working part-time. This approach could be targeted on firms who are last to leave lockdown (mainly leisure/tourism-related) or be kept general if that is impractical.

Finally, there is value in supporting job creation, not just job retention in hard hit sectors. So closing the Job Retention Scheme and looking at wider job stimulation at some point becomes imperative. As noted, a general cut in employers NI is not well targeted on the jobs at risk or where job creation will be needed to absorb the losses in hard hit sectors. But a more targeted approach, where the cut is better focused by making it larger and on only the first few thousand of eligible earnings, could help a lot. So, for example, employers NI could be abolished on the first £5,000 of earnings by raising the threshold at which payments start, or halved for the first £10k. This is then a targeted intervention, which is more valuable for lower paying jobs, including part-time jobs which are half-time or more (employers pay no or very little NI on short hour part-time working).

As the pressure on the Chancellor to do more to support employment and job creation increase, policy responses need to focus on supporting and creating jobs for lower skilled and younger workers who will bear the brunt of the coming rise in unemployment. Cutting employers NI on lower waged jobs (the first £5 or 10k of eligible earnings) offers the best way to do this. While the government’s infrastructure spending will have powerful stimulatory effects in the wider economy, this should be the governments’ priority for supporting employment.