Planned cuts to welfare bill will also push thousands of children back into poverty, according to Institute for Fiscal Studies

Government changes to the benefit system will bring to an end a period of strong income growth for the poorest households and push thousands of children back into poverty, according to a report.

Planned cuts to the welfare bill over the next five years will wipe out gains from higher wages and low inflation that have buoyed incomes across the board in recent years, says the research by the Institute for Fiscal Studies.

Families with more than two children will be the worst affected as the Department for Work and Pensions scales back support for larger families. The report forecasts that the proportion of children in relative poverty will rise by eight percentage points and those in absolute poverty by three percentage points by 2020-21, almost entirely as a result of increasing hardship among families with three or more children.

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But the negative effects will go much wider, says the report, and hit the incomes of most low-income households.

It said that incomes near the top of the scale are projected to increase by 2.3% a year, while incomes near the bottom are expected to remain constant in real terms.

Among those on low incomes, pensioners will see a steady improvement in their incomes, running against the relatively worsening trend for children and working people.

James Browne, one of the authors of the report, said: “Following an historically slow recovery in living standards after the recession, stronger growth in household incomes at all income levels over the last two years will have been welcome news.

“For some, particularly the better off and pensioners, this is likely to continue over the next five years as earnings and state pensions grow more quickly than inflation. But the prospects are not so good for others, including large families with low incomes, who will bear the brunt of planned benefit cuts.”

Facebook Twitter Pinterest Iain Duncan Smith’s Department for Work and Pensions plans to scale back support for larger families. Photograph: Stefan Wermuth/Reuters

The shadow chancellor, John McDonnell, said: “The alarming figures are that by the end of this Tory government one in four children will be living in relative poverty, with a rise to 2.6 million children living in absolute poverty. As the report clearly states, the government’s planned tax and benefit changes are a major reason for these rises in relative and absolute poverty over the next five years.”

A government spokesman said: “Living standards are now growing beyond pre-crisis levels and IFS analysis today predicts household incomes growing across the board, with young adults seeing particularly strong income growth.

“The IFS also say absolute poverty is falling with strong rises in employment helping incomes at the bottom of the distribution keep pace with those at the middle - and this is even before the new ‘national living wage’ comes into effect this April.

“But as the chancellor has said, we need to show resolve in delivering reforms to improve our productivity which is the only way to deliver sustained rises in living standards. At a time of global economic turbulence and heightened risk this means we must stick to the plan to build our resilience and deliver economic security for working families.”

The report measures the incomes of households, after deducting taxes and adding on state benefits and tax credits, taking into account how homes of different sizes and compositions have different needs.

It found that incomes are likely to continue growing for many households as earnings rise faster than inflation. However, the pace of growth, which hit 3.5% last summer, will be relatively slow with median income increasing at an annual average of 1.5% between 2015–16 and 2020–21.

It added: “Even so, by 2020–21 we project that income inequality will be little changed over the 13 years from 2007–08 as a whole.”

The IFS has forecast that those households with incomes that are 10 percentage points above the very lowest earners will see an 8% gain from 2007–08 to 2020-21 and those households with incomes 10 percentage points below the highest earners will gain 8.9%.