Is inequality increasing in the UK?

According to last week’s report on pay distribution by the European Foundation for the Improvement of Living and Working Conditions (Eurofound), the UK has the most unequal wages in the EU. Furthermore, the level of inequality has risen since the early 2000s.

It looked at full-time equivalent pay, compared using Purchasing Power Parity, across the EU. The results show that the UK has one of the most polarised pay distributions (my emphasis):

[T]he most interesting aspect of Figure 1 for the purposes of this report is the way each bar has been broken down by Member State. This makes it possible to see how the distribution of wages in each Member State contributes to overall EU wage distribution. The bottom 20% is to a large extent dominated by eastern European Member States, which have only a very limited presence in mid to high wage levels. Still, it is interesting to see that Germany and the UK have a significant presence in the bottom 20% despite their high income levels. The UK is remarkable for its polarisation: it accounts for a very significant portion (nearly half) of the top 1% of wage earners in the EU, and yet it also has a substantial presence in the bottom two quintiles (it is important to remember that wages here are expressed in PPP).

The UK has a lot of workers towards the bottom of the pay scale but is also over-represented among the EU’s top 1 percent of earners.

The next chart looks at the distribution of EU wages rather than the distribution of people.

Figure 2 is identical to Figure 1 except in one crucial respect: instead of representing the proportion of workers in each €100 interval for the whole of the EU, each bar represents the proportion of total wages earned by workers in each €100 interval. So, for instance, the workers earning between a PPP of €1,200 and €1,300 per month account for around 2% of the total wage mass of the EU. The most striking feature of Figure 2 is the enormous increase in the size of the bar representing the wages earned by the top 1%, which accounts for nearly 7% of the total. This is roughly the same amount that accrues to the bottom 20% of the distribution, as is also shown in Figure 2. Here, the UK’s skewed wage distribution becomes even clearer. The EU’s top 1 percent account of 7 percent of its total wages. The UK’s share of the top 1 percent accounts for “nearly 4% of the total EU wage mass, despite comprising only 0.4% of all EU wage earners”. The extent to which EU pay inequality is skewed by the UK is shown in the next two charts. These use a Theil index to measure pay inequality, which enables inequality within countries to be measured separately from inequalities between countries. Some of the overall EU pay inequality is due to having different pay levels in different countries, even after allowing for purchasing power parity. The Theil index enables these differences to be separated from within country differences. The first chart shows overall pay inequality over the last decade falling from 2004, then rising again after the recession until it is almost back to where it was. Now look at what happens to the same chart when the UK is excluded. Without the UK, EU pay inequality shows a long fall then a very slight increase in 2010 but it is still well below its 2014 level. The UK’s high level of wage inequality and large shifts in the earnings of its top 1 percent are enough to change the figures for the EU as a whole. Britain’s polarised pay is skewing the numbers for the entire continent. That said, it is important to be clear that these charts refer to full-time equivalent pay levels not to incomes. The figures only include employees and do not allow for the distribution of work – either hours of work or periods of unemployment. When these are added in, the UK’s relative position doesn’t look quite as bad. Based on full-time equivalent pay, the dark blue lines, the UK has the highest Gini score and therefore the most unequal distribution. But not everyone works full-time or has regular hours. As you would expect, monthly earnings (the mid-blue line) show greater income inequality in all countries because this measure builds in the effect of the uneven distribution of working hours. Yearly earnings (the light blue line) include those unemployed for some or all of the year. This increases the level of inequality again but this time some countries overtake the UK. This is because Britain has relatively low unemployment and, although its pay levels might be polarised, the amount of work is more evenly distributed than in many other EU countries. Based on yearly earnings, Greece, Ireland and Spain are more unequal than the UK. Finally, household disposable income, the white line, includes income from capital, allows for the distribution of work within families and includes the effects of taxes and benefits. Once this is taken into account, a number of countries (Greece, Spain, Portugal Latvia and Lithuania) are more unequal than the UK. The Gini coefficient of household income is the measure used by the OECD for comparing inequality in different countries and tracking changes over time. The change in inequality of household income in the UK shows a different pattern from that of pay levels. It has remained fairly flat since the early 200s and fell after the recession. The UK’s big jump in inequality came during the Thatcher years then levelled off afterwards. (Chart by Ben Chu, based on OECD data.)

When compared to the recent past and to other EU countries, then, the UK’s pay levels show much higher levels of inequality that its household incomes.

Why might this be? As ever, I’d be interested to hear what people think as my knowledge of European tax and welfare systems is fairly rudimentary but it does suggest that the UK’s tax and benefit system is mitigating some of its pay inequality. For example, the fall in household income inequality since 2000 coincided with the rise in in-work benefits.

The counter-argument, of course, is that it is in-work benefits that have allowed low wage employment to persist and they therefore fuel the income inequality they were set up to alleviate. These are also the benefits most likely to be cut in the Chancellor’s attempt to find £12 billion welfare cuts.

If the benefits which reduce the effects of pay polarisation are about to disappear, inequality in the UK might be set for another sharp rise.

Update: This chart suggests the UK’s tax and benefits system does more to alleviate poverty for households with non-standard work (part-time, temporary and self-employed) than those of most other OECD countries.

Source: In It Together: Why Less Inequality Benefits All, OECD, 21 May 2015.