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Tory welfare reforms are misguided

The Universal Credit will make work cost, not pay.

There is much to praise in Iain Duncan Smith's aspirations for welfare reform, outlined in the bill his department has published today. He wants to make it certain that work pays more than benefits and ensure there are clear obligations to work in the welfare system. The theories behind his big ideas – the Universal Credit and the Work Programme – have the potential to make a real difference to people's lives.

However, the problem for the Work and Pensions Secretary is that he gives the impression of thinking that amending taper rates in the benefits system and devising a smart contracting structure for employment support will be a silver bullet for problems as varied and complex as everything from worklessness to poverty to family breakdown. And he tries to pretend his reforms are taking place in isolation from the rest of government policy and the state of the economy. This is why his good intentions could, sadly, run aground.

The first point is the obvious one. It is much harder for people to find jobs when unemployment is rising. To be fair, this point is sometimes overstated. There is vastly greater movement of people in and out of work than the static monthly employment figures suggest (a point all too rarely reflected in public and media debate). For instance, in January, 325,000 people made a new claim for Jobseeker's Allowance and 344,000 left benefit.

Much more worrying is the staggering 93,000 rise in inactivity during the last quarter – these are people who have basically given up looking for work, many choosing to retire early. These people are the equivalent of the "lost generation" that was left on the scrapheap by the recessions of the 1980s and 1990s. And these are the people who need the government to focus its economic policy on job creation (to increase the overall supply of work) and to entrench a job guarantee as a backstop in the welfare state (to ensure no one drifts into long-term unemployment).

The second problem for Duncan Smith is the cuts to support for low- and middle-income families that he was forced to swallow by the Chancellor as the price for winning Treasury support for his reform plans. An £18bn squeeze on the benefits bill would cause any welfare minister a political headache, but the biggest difficulty is that the impact of these reductions directly contradicts his own policy goals. For a start, over £5bn of the cuts hit working families, reducing their living standards and their incentive to continue working.

And it's not just the measures announced in the Budget and on the Spending Review scorecard that are poised to bite. First, the IFS has confirmed that the Universal Credit will weaken the incentive for potential second earners to work, relative to the current system of tax credits. And now it is reported that the "capital limits" (the level of savings you can hold while still receiving state support) that currently apply to out-of-work benefits will be extended to working families in the Universal Credit.

This means that 400,000 families on a low wage will be stripped of the help they get to top up their wages (and make work pay), simply because they have done the right thing and put some money aside. A further 200,000 will be newly subject to a means test on in-work support for the crime of having savings. This measure will save the government shedloads of cash, but it is disastrous for incentives to work and save. In fact it will make work cost, not pay.

A technical change with a palpable impact on low earners. A measure that is slipped in by stealth and not declared openly by the government. A reform whose impact is directly contrary to the stated goals of ministers. Does that remind you of anything?

If the Social Market Foundation analysis is right – that working families with two children, an annual income of £25,000 and savings of over £16,000 could be £2,600 worse off a year – we could be looking at a Tory 10p tax debacle in the run-up to this year's Budget and local elections.

Graeme Cooke is a senior researcher at the Institute for Public Policy Research.