6 May 2020

Now is the right time to start unwinding the furlough scheme

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The Government brought in a range of measures to support businesses during this crisis, but the one of most immediate significance for the 6.3 million ‘furloughed’ workers is the Coronavirus Job Retention Scheme (CJRS). Changing this scheme is now crucial to the recovery of the UK economy, as the Chancellor of the Exchequer is well aware.

The CJRS was put together hastily, and naturally has imperfections. The conditions for its use have had to be changed several times, for instance to backdate eligibility and to allow people who have left jobs to be ‘re-employed’ and thus eligible to be furloughed by their previous employer. There are inevitably hard cases where people have been excluded from eligibility, or where the terms of the scheme disadvantage some groups of workers.

The scheme is not unique. It is a special case of a wage subsidy programme, of which there have been many in the past, in the UK and elsewhere. Such schemes have inherent dangers. One is fraud, about which Rishi Sunak is said to be very concerned. There are significant potential opportunities for fraud, for example claiming for ineligible or non-existent workers, side-payments for ‘employers’ who declare workers furloughed, and having furloughed workers continuing to work for the employer despite the rules.

All wage subsidy schemes involve ‘deadweight’ and ‘displacement’ costs. The former arise when workers are supported who would be kept on anyway. The latter involve some businesses being subsidised while others are not, meaning those with furloughed workers survive while others go to the wall and their employees lose their jobs instead. These effects together mean that the cost per job ‘saved’ is usually far higher than the average cost per job subsidised.

The budgetary costs of the scheme are considerable. Originally estimated by the OBR at around £42 billion for a three-month period, the cost has certainly risen since, as the scheme has already been extended for an extra month until the end of June, and more workers are being furloughed than initially assumed.

Although the Government gets back perhaps a fifth of the headline cost through income tax and national insurance contributions, and we must always bear in mind that the alternative to the CJRS is a big increase in Universal Credit payments, it is difficult to see that any government could contemplate an indefinite extension of this scheme on budgetary grounds alone, and indications are that the Chancellor soon intends to announce changes which will begin to run it down. Yet the Cabinet appears to be divided on this, while calls are being made by some businesses to extend the CJRS until September.

The longer workers are furloughed, the less likely it is that their jobs will realistically be available to return to. More and more companies will become zombie businesses as markets are lost and demand and supply conditions inexorably shift. Even in ‘normal’ conditions jobs disappear all the time. Typically well over 2 million jobs disappear in the course of a year (luckily in recent years new jobs created have more than compensated, leading to historically very high levels of employment pre-coronavirus).

No government can freeze employment patterns by fiat, and extended attempts to do so are likely to inhibit the necessary creative destruction process and movement of workers from job to job.

One of the subtler problems created by the design of the CJRS is the ‘moral hazard’ introduced by in effect insuring employees against job loss. For some, perhaps many workers, being guaranteed 80% may be a tolerable substitute for normal pay – particularly when travel and other costs of going to work no longer apply. They are safe from infection at home, whereas going back to work would mean little increase in income for the greater health risk attendant on rejoining the outside world.

Their families too are often greatly worried. Opinion polls suggest that people in the UK are more reluctant than those in most other countries to end lockdown while the virus continues to be a risk. This is not their fault, and sniping at ‘lazy’ furloughed workers is pointless, but the Government has created this situation and needs to recognise what it has done.

Ministers did a great job in convincing people of the danger of Covid-19, but the Government will find it very difficult to change its message. Persuading risk-averse and thoroughly scared people to go back to work while there is no vaccine and no proven treatment for the disease is going to be very difficult. We have already seen unions representing rail workers and teachers demanding that various health conditions be met before returning – conditions which the Government may not be able to meet on any reasonable timescale.

The Chancellor has let it be known that that he intends to cut back the level of support for the scheme, but political pressures may mean that the CJRS has to continue in some form beyond the end of June. It needs to change to reduce the cost of the scheme and to make it financially more attractive for workers to overcome inhibitions to exiting lockdown. The indications are that the Chancellor’s intention is to make a cut in the ‘replacement rate’ from 80% to some lower figure, perhaps 60%, and a cut in the maximum amount available per worker. But one alternative could be to switch to a model based on the German job retention scheme.

This scheme, employed effectively to deal with the effects of the financial crisis over a decade ago, focuses on short-time working or kurzarbeit. The government pays 60% of normal pay but, crucially, does not require workers to be completely detached from the firm as the UK scheme currently does. Employees can work half-time, for example. They receive normal pay for the time they are working, while the rest of their normal working week is paid for by a government-run insurance fund.

A movement to such a scheme might make it easier for businesses to reopen gradually, and it would keep employees in touch with their employers in a way which the CJRS deliberately discourages.

The government certainly needs to grasp the courage to change the Job Retention Scheme now before it eats up even larger amounts of taxpayers’ money and the passage of time means that it becomes impossible for businesses to re-employ many of the furloughed workers.

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Professor Len Shackleton is Editorial and Research Fellow at the Institute of Economic Affairs and co-author of ‘Renationalisation: Back to the Future?’, which is published today.

Columns are the author's own opinion and do not necessarily reflect the views of CapX.