OECD Economic Surveys: United Kingdom 2024

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OECD Economic Surveys: United Kingdom

11 September 2024

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4. Boosting labour supply

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Nicolas Gonne
OECD

Abstract

Labour market participation in the United Kingdom remains markedly lower than before the pandemic, jeopardising growth potential and wellbeing. The government has made boosting labour supply a priority, but legislated return-to-work measures are not sufficient to reverse the rise in economic inactivity on the back of mounting long-term sickness, participation-dampening gender norms, and inadequate skills. Reforming the Work Capability Assessment so that ill health-related income support is not conditioned on being found unfit for work would reduce incentives to seek and maintain long-term sickness status, thereby reducing labour market detachment. Indexing personal tax thresholds to inflation, while prioritising National Insurance Contributions thresholds if fiscal space is constrained, would strengthen work incentives, especially at the lower end of the earnings distribution. Setting and monitoring interim implementation milestones for the expansion of free childcare, and prioritising low-income households if childcare supply falls short of demand, would allow flexibility against the fast timeline for rolling out the reform and bolster labour market entry. Reducing apprenticeship subsidy rates for current employees within the Apprenticeship Levy scheme would promote school-to-work transitions for low-skilled young people and early school leavers.

4.1. Rising inactivity overshadows good labour market outcomes

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The United Kingdom is experiencing a substantial and persistent increase in economic inactivity. The British labour market weathered the successive disruptions of the end of free movement for EU workers, the massive uptake of the Coronavirus Job Retention Scheme on the back of pandemic lockdowns, and the energy crisis, with only a temporary increase in unemployment (Chapter 1). However, the magnitude and repetition of shocks appear to have scarred labour supply, leaving labour force participation markedly lower than before the pandemic.

The British labour market remains strong and flexible in international comparison. Unemployment is low (Figure 4.1, Panel A). Workers enjoy higher wages than the OECD average in purchasing power parity terms (Figure 4.1, Panel B), and recently benefited from strong pay growth above inflation (ONS, 2024[1]). Hiring and dismissal regulations are relatively lenient (Figure 4.1, Panel C), facilitating the reallocation of labour resources between occupations and from contracting to expanding businesses (OECD, 2020[2]). The labour market functions smoothly overall, as reflected in the steady return of unemployment and vacancy rates to pre-pandemic conditions after sharp changes (Figure 4.1, Panel D).

Figure 4.1. The British labour market is relatively strong and flexible
Copy link to Figure 4.1. The British labour market is relatively strong and flexible

Yet, after driving GDP growth over a decade of steady increase, employment stalled in the wake of the pandemic. The employment rate, while high in international comparison, has yet to recover (Figure 4.2, Panel A). Flat employment sets the United Kingdom apart from most OECD countries, where trend increases in employment rates resumed (OECD, 2024[3]). Weak employment growth since the pandemic undid about a fifth of the improvement in labour market participation recorded in the decade after the global financial crisis (OBR, 2023[4]). Resilient hours worked partly attenuate employment adjustments, as hours per worker had recovered by the first quarter of 2023, in contrast to a small average decline across OECD countries (OECD, 2023[5]). Net migration also supported labour supply, contributing more than one percentage point to the growth in the labour force in 2023 (OECD, 2024[6]).

Figure 4.2. The post-pandemic rise in economic inactivity endures
Copy link to Figure 4.2. The post-pandemic rise in economic inactivity endures

In contrast with most OECD countries, economic inactivity in the United Kingdom stays higher than before the pandemic. While low in international comparison, the inactivity rate (i.e., the share of the working-age population neither working nor actively seeking employment) at 22.1% in the first quarter of 2024 stands about one percentage point higher than in the last quarter of 2019 (Figure 4.2, Panel B). The pandemic appears to have reversed the decade-long decline in economic inactivity in the United Kingdom, in sharp contrast with comparable economies where the trend was only temporarily interrupted (OECD, 2024[7]). About nine and a quarter million people aged 16-64 were economically inactive as of early 2024, almost 750,000 more than before the pandemic, absorbing the bulk of the increase in the working-age population (Figure 4.2, Panel C).

Economic inactivity rates differ considerably across demographic groups. The gender inactivity gap is lower than the OECD average but remains substantial at about seven percentage points (Figure 4.2, Panel D). The incidence of inactivity is particularly high among youth and for people with education below upper secondary level, yet to a lesser extent than the OECD average. People born abroad are less likely to be economically inactive than those born in the United Kingdom, pointing to a positive contribution of net migration to labour supply.

Known issues regarding the quality of British Labour Force Survey (LFS) data complicate the estimation of employment, unemployment, and inactivity rates. Increased volatility of LFS-based estimates, largely due to a trend decline in response rates and high pandemic-induced non-response bias, create significant uncertainty about the actual level of available labour resources in the United Kingdom (Box 4.1), thereby hampering policymaking. Yet, most available evidence points to structural weakness in British labour supply.

Structural policies can boost labour supply in the United Kingdom, both by reducing economic inactivity and by increasing hours worked. First, policies can decrease the opportunity cost of employment overall, mainly by strengthening work incentives through the tax and benefit system and facilitating return to work for the long-term sick. Second, policies can focus on specific groups for which economic inactivity is relatively high or hours worked relatively low, in particular women. Third, policies can promote the supply of skills that are in high demand, like in occupations necessary for the low-carbon transition and the continued digitalisation of the economy.

The UK government has made increasing labour supply a key priority to support both growth and well-being, with a focus on reducing economic inactivity. A battery of policies were legislated following successive fiscal events since the 2023 Spring Budget to support people into work, notably cuts in the rate of employee National Insurance Contributions (HM Treasury, 2024[8]; HM Treasury, 2023[9]), and a major expansion of childcare support, with free childcare extended to children aged nine to 24 months (HM Treasury, 2023[10]), in large part along the lines of recommendations in previous OECD Economic Surveys of the United Kingdom (OECD, 2022[11]; OECD, 2020[12]; OECD, 2017[13]). Other relevant measures to reduce economic inactivity include higher apprenticeship subsidies for youth in SMEs; a two-year pilot to promote apprenticeships in high-value manufacturing, engineering, and life science; and marginally more funding for existing training programmes, including Skills Bootcamp, a reskilling programme focused on digital, green, and technical skills, and for the Sector-based Work Academy Programme, designed to provide jobseekers with work experience.

The boost in labour supply from legislated measures on National Insurance Contributions cuts, childcare expansion, and welfare reform is not enough to reverse the rise in economic inactivity. The rate of labour market participation is expected to continue falling from its pre-pandemic quarterly peak over a five-year horizon (OBR, 2024[14]). Weak labour supply not only weighs on the volume of output, but also decreases the productivity of physical capital, the accumulation of which is already jeopardized by sluggish investment (Chapter 2). Rising economic inactivity also adds to the drag from ageing in the United Kingdom (Figure 4.4, Panel A), hence worsens fiscal sustainability challenges by reducing the relative size of the tax base to finance rising public expenditure on pension, health, and long-term care (Chapter 1).

Box 4.1. Quality issues with Labour Force Survey and uncertainty about labour market statistics

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Declines in the rate of response to Labour Force Surveys (LFS) observed in many OECD countries have raised concerns regarding the representativeness of LFS-based labour market statistics. In Great Britain, response rates have fallen below 15% as of late 2023, down from about 50% ten years earlier, reducing the LFS sample size from about 82 000 to about 32 000 (ONS, 2024[15]). Lower response rates increase sampling variability, hence volatility in the estimates for employment, unemployment, and economic inactivity rates. The impossibility to conduct face-to-face interviews during pandemic lockdowns added to the trend decline and increased non-response bias, e.g., as renters became under-sampled. In the United Kingdom, major concomitant changes in migration patterns introduced further non-response bias, e.g., as the foreign-born are less likely to respond.

Representativeness concerns led the Office for National Statistics to suspend the publication of LFS-based labour market statistics from October 2023 through to January 2024, and to release reweighted estimates in February 2024 under the badge “official statistics in development”, based on new population census data, updated estimates of international migration, plus a sample boost and the reintroduction of face-to-face interviews (ONS, 2024[16]). The reweighted estimates suggest that statistics based on the pre-suspension weights had been increasingly underestimating the rate of economic inactivity (Figure 4.3, Panel A). Reweighted LFS estimates continue to exhibit a post-pandemic break vis-à-vis alternative data sources, either employer survey or tax data (Figure 4.3, Panel B). If alternative sources give a truer picture of employment, then the LFS may overestimate the true inactivity rate.

This chapter relies on reweighted LFS estimates for all labour market statistics, unless stated otherwise. Measures differ from previously published data, and may change following the publication of the Transformed Labour Force Survey, currently under development.

Figure 4.3. Discrepancies across data sources create uncertainty regarding labour availability
Copy link to Figure 4.3. Discrepancies across data sources create uncertainty regarding labour availability

Figure 4.4. Stronger labour supply is needed to address ageing, shortages, and inequality
Copy link to Figure 4.4. Stronger labour supply is needed to address ageing, shortages, and inequality

Not only the quantity, but also the quality of labour supply matters for growth. Short-term, pandemic-induced imbalances between labour supply and demand have receded in the United Kingdom, but shortages of skilled labour remain, impeding British businesses to operate at their desired production level. An increasing share of employers have been reporting skill-shortage vacancies, defined as hard-to-fill vacancies occurring when an employer cannot find applicants with the required skills, qualification, or experience (Figure 4.4, Panel B). Shortages also contribute to upward pressures on labour costs, complicating monetary policy (Chapter 1).

Boosting labour supply would also help reduce inequality in the United Kingdom, as labour market earnings constitute households’ main source of income. Income inequality is structurally high by OECD standards (Figure 4.4, Panel C). Yet, exiting economic inactivity is particularly conducive to better incomes for British households, as the probability to escape poverty when becoming employed is one of the highest in the OECD (Figure 4.4, Panel D). Higher participation and labour market earnings are key for British workers against the backdrop of an acute cost-of-living crisis (Chapter 1). However, real earnings are unlikely to grow sustainably in the absence of productivity growth (Chapter 2).

Addressing economic inactivity is particularly important for young cohorts, given the scarring effects of weak school-to-work transitions. Labour market participation among the 18-24 year-olds appears on a decline, from over 70% before the pandemic to about 66% as of the last quarter of 2023 (ONS, 2024[18]). The concomitant increase in the number of people aged 18-24 not in employment, education or training (NEET) suggests that declining labour market participation among youth does not only reflect increased participation in higher or post-secondary education (ONS, 2024[19]), even though LFS-based estimates of NEET rates are subject to high uncertainty given smaller achieved sample sizes (Box 4.1 above). Rising inactivity among young cohorts jeopardises the improvements achieved by the United Kingdom in tackling the NEET issue since the global financial crisis (OECD, 2024[20]).

This chapter discusses policies to boost labour supply in the United Kingdom, both by reducing economic inactivity and by increasing hours worked. It first describes the key factors weighing on labour market participation, namely long-term sickness, caretaking (mostly by women), and inadequate skills, before discussing policy options to address them. These comprise improvements to the design of the tax and benefit system, including health-related welfare, personal tax thresholds, and effective tax rates; continued family policy reforms, specifically childcare support, parental leave entitlements, and long-term care; and adjustments to existing measures regarding the provision of skills, including apprenticeship, adult training, and skilled migration. Policies to increase labour productivity, in particular in the services sector and for low-skilled workers, were discussed in previous OECD Economic Surveys of the United Kingdom (OECD, 2020[12]; OECD, 2017[13]).

4.2. Long-term sickness, caretaking, and inadequate skills weigh on participation

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About a third of the economically inactive population aged 16-64 reports sickness as the main reason for inactivity as of the first quarter of 2024 in the United Kingdom. Self-reported sickness, which comprises all health conditions including disability and mental illness, appears to be a more important driver of inactivity than in most other advanced economies, despite limited availability of internationally comparable data (OBR, 2023[4]). Other reasons for inactivity include education (one quarter of the inactive population), family and home care responsibilities (one out of six inactive people), discouragement (one out of eight inactive people, comprising the inactive not looking for work because they believe no jobs are available, and residual categories, including uncategorised reasons), and early retirement (one out of eight inactive people). Importantly, post-pandemic estimates of the share of inactive population by reason are subject to uncertainty, like other LFS-based statistics (Box 4.1 above).

The large and persistent increase in economic inactivity since the pandemic is mostly driven by the rise in long-term sickness (Figure 4.5, Panel A). The number of people aged 15-64 citing sickness as the main reason for economic inactivity increased by about 750,000 between the last quarter of 2019 and the first quarter of 2024, making up about 90% of the overall increase in inactivity (Figure 4.5, Panel B). Second in importance, the share of inactivity accounted for by students resumed its gradual increase after temporary, pandemic-induced changes, reflecting the overall trend increase in higher education participation observed in the United Kingdom like in other OECD countries (Department for Education, 2023[21]). The share of inactivity due to family or home care responsibilities is lower than before the pandemic and continues edging down. Yet, it remains a major factor of inefficiently low labour supply and of talent misallocation, especially for women, despite a substantial improvement since the mid-2010s (ONS, 2024[22]). The share of discouraged workers in the inactive population is close to pre-pandemic levels, after growing steadily over the decade following the global financial crisis. Last, the share of early retirees in the inactive population remains on a steadily decreasing path despite a temporary increase in the aftermath of the pandemic, supported by the equalisation of female and male state pension ages and the increase in the statutory pension age (OBR, 2023[4]).

Figure 4.5. Sickness accounts for the largest and most persistent increase in inactivity
Copy link to Figure 4.5. Sickness accounts for the largest and most persistent increase in inactivity

4.2.1. Long-term sickness remains on an upward trajectory

Long-term sickness has been a major reason for economic inactivity in the United Kingdom even before the pandemic. The proportion of the population aged 55-64 inactive due to own illness or disability and wanting a job has been persistently higher than in other European G7 economies (OBR, 2023[4]). Moreover, the rate of economic inactivity among the 16-24 and 25-34 age groups due to long-term sickness has been on the rise since the mid-2010s, with mental health the most common reason for young people to be workless due to sickness (Resolution Foundation, 2023[23]). Health-related inactivity reflects a very high incidence of self-reported disability among the British population, at more than 20% of the population aged 15-69 (Figure 4.6, Panel A). More than 6% of the population does not work because of self-reported disability, one of the highest rates among OECD countries (OECD, 2022[24]).

Figure 4.6. The incidence of disability is high and the ill-health have become less likely to work
Copy link to Figure 4.6. The incidence of disability is high and the ill-health have become less likely to work

The rise in inactivity due to long-term sickness reflects the combination of continued increase in the population reporting a health condition and lower participation among the ill health since the pandemic (Figure 4.6, Panel B). Several factors contributed to interrupt the rise in labour market participation for those with a health condition, including a slowdown in health improvements, the health impact of the pandemic, and changes to the design of the health-related welfare system (OBR, 2023[4]). Self-certification for statutory sick pay during the pandemic is often blamed for detaching sick workers from the labour market. Bottlenecks in the public healthcare infrastructure are unlikely to have directly pushed up economic inactivity since the pandemic, but might have contributed indirectly, as people postponed seeking health services, possibly worsening health outcomes and detachment from the labour market (Box 4.2).

Box 4.2. Are NHS waiting lists a driver of rising long-term sick inactivity?

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The pandemic created significant pressures on the National Health Service (NHS) as the number of patients requiring COVID-related hospitalisation increased sharply. Many routine operations and treatments were prevented or delayed at the height of the pandemic, like in many OECD countries. The cumulative backlog of treatments being waited for in England rose from 4.6 million in January 2020 to 7.4 million in May 2023 (Figure 4.7, Panel A).

Combining different data sources, the Office for Budget Responsibility concluded that “the rising NHS waiting list itself looks unlikely to have been a significant causal driver of rising long-term sick inactivity in recent years” (OBR, 2023[4]). Indeed, only about 650,000 of the roughly 2,900,000 working-age adults on NHS waiting lists in 2022 were inactive due to long-term sickness; the median duration on the waiting list is 15 weeks, implying a much larger turnover than in long-term sick inactivity; the correlation between change in waiting list volumes by age and concurrent changes in long-term sick inactivity by age is weak; and the largest increases in waitlisted treatments, namely musculoskeletal treatments and treatments for progressive illnesses, do not correspond to the largest increases in health conditions among the long-term sick, namely mental health problems (Figure 4.7, Panel B).

Yet, the Office for Budget Responsibility recognises that disruptions to the NHS over the pandemic might have prevented people from seeking health services, even without joining a waiting list, possibly worsening health problems. Moreover, health professionals’ advice to employees and employers about fitness and return to work was partly replaced with self-certification for statutory sick pay over the same period, possibly entrenching detachment from the labour market.

Figure 4.7. NHS waiting lists rose sharply since the pandemic
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4.2.2. Caretaking still keeps women from the labour market

Women account for a disproportionate share of economic inactivity in the United Kingdom, mostly due to family or caring responsibilities, as discussed in the 2022 OECD Economic Survey of the United Kingdom (OECD, 2022[11]). Caretaking keeps about 1,400,000 women from the labour force, or about nine percent of the female working-age population, versus fewer than 250,000 men (Figure 4.8, Panel A). The gender inactivity gap due to caretaking improved substantially over the decade prior to the pandemic, as women account for the bulk of the steady increase in overall British labour force participation from about 76% to 79% of the population aged 15-64, reflecting both rising employment rates among mothers of young children and declining birth rates (OBR, 2023[4]). The female labour market participation rate is above the OECD average, but remains below the male rate (Figure 4.8, Panel B).

Figure 4.8. The gender inactivity gap remains large, especially due to caretaking
Copy link to Figure 4.8. The gender inactivity gap remains large, especially due to caretaking

Higher inactivity among women due to caretaking reflects gender-specific distortions in work decisions. The combination of unequal sharing of unpaid work and limited availability of affordable childcare creates barriers to women’s labour supply, as it alters the opportunity cost of gainful employment (OECD, forthcoming[25]). British women and men work about the same amount when both paid and unpaid work are considered, but women spend more than four hours per day in unpaid work on average, versus less than two and a half hours for men (OECD, 2024[26]). Part-time work is unevenly distributed in the United Kingdom, as women are three times more likely to work part-time than men, and the gender gap in hours worked is larger than OECD average (OECD, 2024[27]; OECD, 2024[7]). Such imbalance not only leads to large gender gaps in earnings (OECD, 2024[28]), but also constitutes a costly misallocation of labour and human capital resources, especially as women’s educational attainments largely surpass men’s (OECD, 2024[29]). Simulations suggest that the gain in potential output per capita from fully closing gender gaps in labour market participation and hours worked by 2060 would be close to 0.2% points in the United Kingdom (Fluchtmann, Keese and Adema, 2024[30]).

4.2.3. Lack of qualifications discourage job seeking

Lack of skills needed in the labour market constitute another driver of economic inactivity. The incidence of economic inactivity is higher among the low skilled, with more than half of those without qualification (i.e., who left school without any diploma or certificate) economically inactive in 2022, or about 1.2 million people in England (ONS, 2024[31]). Moreover, the absence of qualifications and economic inactivity due to long-term sickness go hand in hand (Figure 4.9, Panel A), suggesting that lack of skills is a more important driver of economic inactivity than reported in surveys of reasons for inactivity. Relatively strict job seeking requirements for the unemployed may incentivise those lacking the skills needed in the labour market to self-report sickness and claim health-related benefits, which could partly explain higher prevalence of mental illness among people with lower educational qualifications (Banks, Karjalainen and Waters, 2023[32]).

Figure 4.9. Economic inactivity appears strongly correlated with inadequate skills
Copy link to Figure 4.9. Economic inactivity appears strongly correlated with inadequate skills

Skill mismatch is particularly important in the United Kingdom. About 40% of workers have qualifications that do not match their job requirements, one of the highest proportions in the OECD (Figure 4.9, Panel B). The latest Employers Skills Survey shows an increase in hard-to-fill vacancies due to applicants lacking the relevant skills, qualifications, or experience, from 22% of all vacancies in 2017 to 36% in 2022 (Department for Education, 2023[33]). Digitalisation and the low-carbon transition are likely to continue altering the skill composition of labour demand (OECD, 2023[34]), especially as green skills are in particularly high demand given the country’s ambitious net zero targets (Chapter 3).

Low-skill workers’ labour market participation is likely further discouraged by poor job quality at the bottom of the income distribution in the United Kingdom. Job satisfaction has fallen among low earners, and stressful and unfulfilling low-paid work leads the low-skilled to reduce hours worked (Resolution Foundation, 2023[35]). The National Living Wage boosted earnings at the bottom of the income distribution, but non-compliance with minimum wages and other labour legislations is widespread (Low-Pay Commission, 2023[36]). Moreover, a relatively high share of British employment growth is accounted for by own-account workers and workers on zero-hour contracts, who often lack employment protection and other employment rights, such as social insurance contributions and minimum wages (Giupponi and Machin, 2022[37]).

4.3. Designing taxes and benefits better to strengthen work incentives

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Labour taxation, social security contributions and means-tested benefits are key drivers of individuals’ labour supply decisions, both whether to participate in the labour market (the extensive margin) and how many hours to work (the intensive margin). Tax and benefit systems reduce economic insecurity by cushioning the impact of adverse labour market transitions, for instance into unemployment or incapacity. However, they often discourage labour supply by increasing the opportunity cost of entering the labour market or working more hours. Therefore, taxes and benefits, including health-related welfare, need to strike the balance between protection against economic insecurity and work incentives to ensure full utilisation of all available human capital.

In the United Kingdom, the tax-benefits system may discourage labour supply in three important instances. First, differences in replacement income and in activation requirements between unemployment and long-term incapacity create incentives for inactive individuals to claim incapacity benefits, detaching them further from the labour market. Second, the non-indexation of personal tax thresholds since April 2021 brought more workers in higher income bands, weighing on work incentives. Third, humps in the personal income tax schedule create threshold effects beyond which effective tax rates are particularly high and strongly reduce the post-tax value of incremental income, also decreasing work incentives.

Distortions affect labour supply differently across the income distribution. Inefficiencies in the incapacity regime and frozen tax thresholds mostly concern the lower part of the income distribution, while considerations about the income tax schedule mostly concern the upper part of the distribution. Strengthening work incentives for the low income is likely to have the most effect on labour supply from a quantitative perspective, but incentives also matter at the higher end of the distribution, especially in key occupations such as digital-intensive ones.

4.3.1. Health-related welfare

The health-related welfare system can explain part of the increase in health-related inactivity, but its role ought not to be overstated. Wider trends in population health also matter, as shown by the rise in work-limiting conditions, especially those related to mental ill health (Health Foundation, 2023[38]). Even though trend changes in self-reported health data may reflect changing awareness or cultural factors, they are good predictors of future health and care needs (OBR, 2023[4]). The government is committed to address worsening health trends in general and mental health in particular, as evidenced by the GBP 795 million package over five years announced at the 2023 Autumn Statement, which expands individual placement and support for severe mental health conditions, as well as talking therapies for treatment of mild and moderate conditions (HM Treasury, 2023[9]). Yet, as long-term health trends are broadly similar across comparable advanced economies, the higher prevalence and persistence of severe incapacity in the United Kingdom likely reflects gatekeeping inefficiencies.

British health-related welfare is not particularly generous in international comparison. Public spending on sickness, disability, and occupational injury at about 2% of GDP before the pandemic is close to the OECD average (Figure 4.10, Panel A), and has been stable over the past decade. The generosity of health-related benefits as a share of both average earnings and unemployment benefits is close to the average in other European countries (Browne, Neumann and Pacifico, 2018[39]). Importantly, differentiating health-related benefits that are purely needs-based (henceforth, “disability benefits”) from benefits that are both means-tested and needs-based (“incapacity benefits”) is key, as mainly the latter create disincentives to work. Under the current system, eligibility for disability benefits depends on the Personal Independence Payment assessment, while eligibility for incapacity benefits depends on the Work Capability Assessment. Benefits are more generous for severe incapacity than for less-severe incapacity.

Figure 4.10. Spending on incapacity is not high, but activation is strict for the unemployed
Copy link to Figure 4.10. Spending on incapacity is not high, but activation is strict for the unemployed

The relative generosity of severe incapacity benefits compared to other forms of replacement income, mostly unemployment benefits, partly explains high levels of inactivity due to long-term sickness. Current differences in replacement income between unemployment and severe incapacity are particularly large: the annual benefit (excluding any top-up, e.g., for children or housing costs) for a new claimant aged 25, single and with no dependent is about GBP 9,000 if deemed severely incapacitated (i.e., unfit for work), but less than GBP 4,500 if deemed either less severely incapacitated (i.e., fit for work in the future) or fit for work (OBR, 2023[4]). A combination of policy reforms, including the full rollout of Universal Credit in 2018/19 and a sharp fall in award rates for less-severe incapacity benefits effective from 2017/18, only exacerbated long-standing differences in income replacement levels, with a rise in the level of severe incapacity benefits relative to unemployment benefits, and a drop for less severe incapacity. Almost 50% of the population aged 15-69 with severe disability received income-replacement benefits in the United Kingdom over the period 2016-2019, but only 10% of those with moderate disability, one of the largest gaps among OECD countries (OECD, 2022[24]).

Tightening of conditionality and sanctions for unemployment relative to incapacity likely contributed to the rise in health-related inactivity. Eligibility criteria for unemployment benefits in the United Kingdom are among the strictest in the OECD and have become stricter over the past decade (Figure 4.10, Panel B), while spending on activation (i.e., measures to support jobseekers into employment) is relatively low (see below). Universal Credit modernised activation policies and the delivery of welfare benefits, improving employment outcomes overall (OECD, 2020[12]; Pareliussen, 2013[41]). However, unequal stringency across benefit types creates strong arbitrage incentives between forms of income support. Specifically, conditionality regarding unemployment and less-severe incapacity benefits was tightened, even as conditionality on severe incapacity remained broadly unchanged. Sanction rates for unemployment benefit claimants spiked at about eight percent of the relevant caseload after the pandemic, while they remain low at about one percent of the relevant caseload for claimants of less-severe incapacity benefits, and no sanctions apply for claimants of severe incapacity benefits (OBR, 2023[4]).

Gaps in activation requirements and benefit levels between unemployment and long-term incapacity give the unemployed and those who are only temporarily unfit for work incentives to seek and maintain long-term sickness status. While benefit sanctions support labour market transitions into work, they may impose unnecessary hardship on vulnerable workers and discourage job search, especially as alternative forms of replacement income are more generous (Immervoll and Knotz, 2018[40]). Similarly, strict activation requirements yield positive employment outcomes, but the evidence available for the United Kingdom shows that individuals substitute from unemployment to incapacity benefits when activation requirements become stricter, as was the case following the Lone Parent Obligation reform (Codreanu and Waters, 2023[42]; Avram, Brewer and Salvatori, 2018[43]). Moreover, as argued in the 2022 OECD Economic Survey of the United Kingdom, the “Work First” approach tends to overlook skill adequacy, possibly leading to skill mismatch and lower labour productivity.

The UK government should reform the incapacity assessment system, so that income support is not conditioned on being found unfit for work. The current system, so-called “Work Capability Assessment”, provides additional income support within Universal Credit for individuals deemed to have limited capacity to either work or prepare for work (i.e., incapacity benefits). Such focus on limitations rather than abilities effectively means that individuals risk losing benefits if they re-enter the labour market despite their health condition, and thereby creates strong work disincentives. The government announced its intention to reduce barriers to employment by removing the Work Capability Assessment (Department for Work and Pensions, 2023[44]). Under the plans, eligibility for health-related income support would depend solely on one assessment, namely the existing needs-based Personal Independent Payment assessment. The associated activation requirements would be tailored to claimant’s abilities thanks to work coaches, irrespective of the awarded level of benefits. Such a reform would go in the right direction as it would reduce inflows to the incapacity regime and promote outflows into employment, and should be legislated and implemented swiftly.

Early intervention and initiation of formal return-to-work pathways would help reduce inflows into long-term incapacity, notably for the rising number of individuals citing mental health as the main reason for inactivity. Supporting workers’ return to work while they are on statutory sick pay and before they enter long-term incapacity is crucial to prevent labour market detachment (OECD, 2022[24]). Individual placement and support programmes, whereby multidisciplinary mental health teams, including an employment specialist, provide co-ordinated health and employment support for jobseekers, have resulted in positive employment outcomes in Australia and Denmark (OECD, 2021[45]). The government’s intention to reform the fit note process to support return to work after a period of sick inactivity goes in the right direction (HM Treasury, 2023[9]), and the planned consultation and trials are welcome.

Current activation practices for people with long-term sickness status could be strengthened. Activation is particularly weak for people on severe incapacity benefits, as the Department for Work and Pensions engages very little with them for either return to work or a reassessment of their situation (OBR, 2023[4]). To promote return to work, the United Kingdom could seek to rehabilitate workers through transitional disability programmes, before granting permanent disability benefits (OECD, 2022[24]). Countries like Austria, the Netherlands, and Norway have introduced or strengthened transitional programmes with strong effort on vocational rehabilitation and training to prevent unwarranted placement into long-term incapacity and associated detachment from the labour market (Box 4.3).

A multipronged approach is required to remove work disincentives from the health-related welfare system, with greater emphasis on activation. A reform could be designed to combine the following: first, improved incapacity assessment, so as to eliminate arbitrage opportunities between forms of replacement income; second, stronger activation under both severe and less-severe incapacity regimes, through both early intervention and engagement with the long-term sick; and third, a stronger focus on training for the unemployed. Where needed, supplementary support for the severely incapacitated could rely more on needs-tested benefits, such as the Personal Independence Payment, and activation requirements for specific groups could be marginally alleviated, such as for single parents. Such reform would ensure that job-search requirements support transitions into and return to work, hence reducing the risk of further detaching the most vulnerable workers from the labour market.

Box 4.3. Transitional disability programmes: the cases of Austria, the Netherlands, and Norway

Copy link to Box 4.3. Transitional disability programmes: the cases of Austria, the Netherlands, and Norway

Several OECD countries have been reforming health-related welfare programmes to include adapted activation-like requirements under the form of transitional disability programme, with the aim to limit placement into long-term incapacity and associated detachment from the labour market.

Austria replaced its temporary disability benefit system with two transitional benefits routes as part of a broader reform in 2014: a rehabilitation benefit (Rehabilitationsgeld), which focuses on medical recovery for claimants to be fit for work, and a retraining benefit (Umschulungsgeld), which focuses on upskilling claimants for either their previous occupation or a new one. Incapacity benefits are awarded only if the transitional programme failed.
Similarly, the Netherlands has been sorting health-related welfare claimants into two groups since the 2006 reform of disability insurance: fully and permanently incapacitated, with a focus on income replacement (Inkomensvoorziening Volledig Arbeidsongeschikten), or partially and temporarily incapacitated, with a stronger focus on return to work (Werkhervatting Gedeeltelijk Arbeidsgeschikten).
By contrast, Norway merged three benefit routes (vocational rehabilitation, medical rehabilitation, and temporary disability) into one single work assessment allowance (Arbeidsavklaringspengar) in 2010, with a rehabilitation time of 3-5 years. Incapacity benefits are awarded only after completion of the programme.

Transitional disability programmes appear reasonably successful, with substantial shares of benefits claimants transitioning to employment (Figure 4.11), even though caveats apply against causal interpretation given selection issues. Cross-country comparison is not relevant given differences in eligibility to transitional disability programmes, e.g., based on age.

Figure 4.11. Transitional disability programmes can reduce detachment from the labour market
Copy link to Figure 4.11. Transitional disability programmes can reduce detachment from the labour market

4.3.2. Personal tax thresholds

About half of OECD countries adjust tax-benefits parameters automatically to inflation, and most others do it discretionarily, including since the recent surge in inflation (OECD, 2023[46]). Indexing thresholds for income tax and social security contributions preserves not only households’ real disposable income, by ensuring that the tax burden does not increase with prices, but also work incentives, by limiting decreases in real post-tax earnings driven by inflation. Similarly, indexing allowances and thresholds for benefits prevents unwarranted distributional effects, especially for individuals with income close to the thresholds.

All the main thresholds for income tax, National Insurance Contributions (i.e., social security), and allowances have been frozen since 2021 and until 2028 in the United Kingdom, rather than indexed to inflation as is the default in legislation (Box 4.4). The ensuing change in the taxation of earnings weakens work incentives for individuals close to the thresholds, especially at the lower end of the income distribution, as the freeze reduces the real value of the Personal Allowance (i.e., the amount of income an individual is entitled to receive before any income tax is due), thereby bringing over two more million taxpayers into income tax in fiscal year 2023/24 (Figure 4.12, Panel A). The increase in tax wedges was particularly significant for low-income individuals, as the minimum wage was uprated while thresholds for social security contributions and income tax were not (Figure 4.12, Panel B). Universal Credit was also uprated, as recommended in the 2022 OECD Economic Survey of the United Kingdom, as well as pensions, effectively preserving purchasing power.

Figure 4.12. Frozen thresholds raise the tax wedge, including for low-income workers
Copy link to Figure 4.12. Frozen thresholds raise the tax wedge, including for low-income workers

Box 4.4. Frozen thresholds for personal tax, allowances, and benefits

Copy link to Box 4.4. Frozen thresholds for personal tax, allowances, and benefits

Key personal tax thresholds are frozen until fiscal year 2027/28, including for:

Secondary National Insurance Contributions (i.e., employer social security), at GBP 9,100;
Primary National Insurance Contributions (i.e., employee social security), at GBP 12,570 after it was increased from GBP 9,880;
Basic Rate for income tax, at GBP 12,570, thereby freezing the Personal Allowance;
Higher Rate for income tax, at GBP 50,270;
Additional Rate for income tax, at GBP 125,140, after it was lowered from GBP 150,000.

The taper or withdrawal of allowances and benefits also depend on tax thresholds, including for:

Personal Allowance, tapered away from GBP 100,000;
Free childcare entitlement and tax-free subsidy, withdrawn at GBP 100,000.

Note: The Personal Allowance is the amount of income an individual is entitled to receive before any income tax is due.

Source: HM Government.

The UK government should uprate personal tax thresholds to inflation, prioritising National Insurance Contributions if fiscal space is constrained (Chapter 1). While the recent cuts in the rate of National Insurance Contributions from 12% to 8% adequately targets the working population and reduces the wedge between taxes on different sorts of income (HM Treasury, 2024[8]), the associated boost in labour supply is dampened by the freeze of thresholds (OBR, 2024[14]). Moreover, the cut compensates for the freeze to a significantly different extent at different income levels, and does not offset the fiscal drag for low-income workers (IFS, 2024[47]). Uprating National Insurance Contributions thresholds would restore work incentives more fully, especially at the lower end of the earnings distribution. Such uprating could stand alone or be part of a thorough review of the many inefficiencies in the current tax system, including differences in contribution between employees and the self-employed (Chapter 1).

Uprating the other thresholds and allowances before 2028 could be considered, conditional on public finances having durably returned to a sustainable path (Chapter 1). Freezing rather than indexing thresholds has been a welcome boost to British public finances in a context of limited fiscal space. In fiscal year 2024/25 alone, the freezes will increase tax receipts by about one percent of GDP (OBR, 2024[14]), more than the fiscal cost of the cut in the rate of National Insurance Contributions. Moreover, richer households, whose income fall in the Higher Rate and Additional Rate bands, account for the bulk of the fiscal drag, attenuating regressivity concerns. Yet, such increases in tax take through freezes of thresholds should be avoided, as they weigh on labour supply by reducing work incentives.

4.3.3. Effective tax rates

The effective marginal tax rate on working additional hours is relatively low on average in the United Kingdom but features large disparities depending on household composition. Single earners with children face particularly high marginal tax rates on increasing hours worked, both in international comparison and relative to single earners without children (Figure 4.13, Panel A). These disparities in effective income taxation across households mirror the many arbitrary kink points in the income tax schedule (Figure 4.13, Panel B), reflecting the tapering away of not only the child benefit but also the Personal Allowance (IFS, 2024[48]). Other benefits, such as childcare entitlements, are withdrawn at arbitrary income thresholds. The number and age of children is a particularly important determinant of households’effective tax rates (Box 4.5).

Figure 4.13. Incentives to work more are weak for single parents and at arbitrary income levels
Copy link to Figure 4.13. Incentives to work more are weak for single parents and at arbitrary income levels

Box 4.5. Child benefits in the income tax system

Copy link to Box 4.5. Child benefits in the income tax system

Child benefits alter households’ effective marginal taxation along the yearly adjusted income distribution of the primary earner in three key instances:

Up to GBP 60,000, households receive an allowance per child (the so-called “Child Benefit”);
Between GBP 60,000–80,000, the child benefit is tapered away linearly (effectively, households are liable for the so-called “High-Income Child Benefit Charge” at the rate of 0.5% of the child allowance for every GBP 100 above the GBP 60,000 threshold until full exhaustion);
Up to GBP 100,000, households are entitled to 15- or 30-hour of free childcare for 3-4 year-olds, currently being expanded to younger children, and a tax-free childcare subsidy (the entitlement is simply withdrawn above the GBP 100,000 threshold).

Source: HM Government.

The UK government would do well to abolish the High-Income Child Benefit Charge (HICBC) to improve parents’ work incentives. The charge effectively tapers the child benefit away for families whose primary earner makes more than GBP 60,000 a year (Box 4.5 above), ensuring that support is targeted but implying a jump in the marginal income tax rate from about 40% to about 53% over the tapering range for a primary earner with two children. Moreover, the marginal tax rate increases in the number of children, as a higher benefit is tapered over the same income range. The recent reform of the HICBC, which increased the threshold from GBP 50,000 to GBP 60,000 and extended the range by GBP 10,000, is estimated to lead to an increase in labour supply by 10,000 full-time equivalents within five years (OBR, 2024[14]), a welcome step in the right direction. The fiscal cost of abolishing the HICBC could be offset by adjusting the Higher Rate for income tax in a revenue-neutral reform. At minimum, a less ambitious reform could lower the taper rate, and extend the taper range up to income level GBP 100,000, so that the jump in marginal rate is less and the tax schedule remains progressive everywhere. In such less ambitious reform, the taper rate should also be equalised across household situations, so that marginal tax rates do not depend on the number of children.

The government is advised to carefully consider work incentives effects for second earners, mostly women, before implementing reforms that make joint household income the basis for assessing eligibility to certain benefits. The latest Spring Budget includes plans to administer the HICBC on a household basis rather than individual basis by April 2026 (HM Treasury, 2024[8]). While moving to a household-unit approach would address horizontal inequality between single- and dual-earner households (under the current system, a family with two incomes of GBP 40,000 each receives full child benefits, while a family with a single income of GBP 80,000 does not get any child benefit), it would only do so at the cost of increasing marginal tax rates for second earners, thereby dampening labour supply, as is the case in Germany or in Switzerland (OECD, 2023[49]; OECD, 2024[50]). The HICBC would better be abolished in a revenue-neutral reform, as described above.

The taper of the Personal Allowance (i.e., the amount of income an individual is entitled to receive before any income tax is due) could also be reformed. The allowance is reduced linearly for gross earnings between GBP 100,000 and about GBP 125,000, resulting in a bump to 60% marginal tax rate over that income range. Moreover, the GBP 100,000 threshold at which the allowance starts being withdrawn has not been uprated in line with inflation since its introduction in 2010, so that a growing number of taxpayers falls under the 60% marginal rate (Figure 4.13, Panel B above). Overall, these considerations reflect a necessity to review inefficiencies in the income tax system while taking fiscal and distributional implications into account (Chapter 1).

The government could evaluate the impact of the threshold for childcare entitlement on labour supply, demand for childcare services, and public finances. The free 15- or 30-hour entitlement for 3-4-year-old children and the tax-free childcare subsidy are restricted to families whose primary earner makes less than GBP 100,000 a year (Box 4.5 above), reducing labour supply as it creates cliff-edge situations whereby households are worse off when their income increases. For instance, disposable income for a parent of two children under three paying average London rates for childcare and using 50 hours per week would decrease by GBP 20,000 as pre-tax income crosses the GBP 100,000 threshold (IFS, 2023[51]). To address these disincentives to work, the government could consider making childcare entitlements universal, and offset the fiscal cost and regressive distributional effect with higher marginal taxation of high incomes. However, simply removing the threshold would likely increase childcare demand by relatively well-off households, and risk pricing out lower-income parents, calling for in-depth assessment.

Recommendations in previous *Surveys*	Actions taken since the last *Survey*
Further increase active labour market spending to displaced and low-skilled workers.	Two packages of reform were announced in 2023 to provide support for the long-term unemployed claiming Universal Credit, including an extension and expansion of the Restart scheme, which provides tailored intensive support to those unemployed for more than 9 months. The government has also announced expanded support for young people and for those aged 50 and over. In addition to this, for those who remain unemployed after 18 months of support, the government is rolling out mandatory work placements and other intensive activity to improve their employability prospects.
Ensure that the stringency of the job-search requirements in Universal Credit, in the form of payment sanctions, are not too strict.	A range of measures were announced to help strengthen the sanctions system targeted specifically at claimants who are disengaged and non-compliant. This includes closing the claims of Universal Credit claimants who have been disengaged with Job Centre support for over six months, and for claimants who choose not to comply with new conditions set by a work coach after 18 months unemployed.
Use well-designed in-work benefits to support low-income earners rather than continuing steep increases in the minimum wage.	At Autumn Budget 2021 the Universal Credit taper rate was cut from 63p to 55p, and the Universal Credit work allowances was increased by GBP 500 a year.

4.4. Continuing to step up family policy to promote female participation

Copy link to 4.4. Continuing to step up family policy to promote female participation

Family policy directly affects labour supply, as it alters the economic trade-off between caretaking and waged labour. Well-designed childcare support, paid leave, and long-term care specifically promote female labour supply and gender equality, given women’s typically disproportionate share of unpaid work. Family policy may indirectly impact work decisions further by altering social norms regarding gender roles and the division of caretaking.

In the United Kingdom, continuing efforts to improve childcare affordability is particularly urgent. Fully implementing the expansion of childcare support announced at the 2023 Spring Budget is a priority. Complementary reforms include improving the current system of paid parental leave entitlements, and ensuring the availability of adult social care on the back of rising demand due to ageing.

4.4.1. Childcare support

The UK government is implementing a major expansion of childcare support to improve affordability. Out-of-pocket childcare costs at about 25% of the average wage are currently among the highest in the OECD (Figure 4.14, Panel A), entailing a particularly large opportunity cost of entering the labour market instead of looking after children, as discussed extensively in the 2022 OECD Economic Survey of the United Kingdom. Childcare costs significantly reduce labour market participation incentives for low-wage work, as reflected in relatively high participation tax rates (i.e., the share of additional gross earnings lost to either higher taxes or lower benefits when a jobless person takes up employment) in international comparison (Figure 4.14, Panel B).

Figure 4.14. Childcare costs are high and deter labour market entry
Copy link to Figure 4.14. Childcare costs are high and deter labour market entry

When fully rolled out, the reform will provide working parents with 30 hours of childcare per week for 38 weeks per year for each child aged nine months to five years in England, with some further help for families on Universal Credit (HM Treasury, 2023[52]). The measure constitutes a significant expansion from the previous system limited to children aged three and above, offering a smooth bridge from parental leave, and is expected to increase hours worked and employment. Estimates suggest that, together with other smaller welfare measures, the reform will increase employment by 114,000 full-time equivalents, a 0.33% growth in labour supply (OBR, 2024[14]).

Reforming childcare support was recurrently recommended in previous OECD Economic Surveys of the United Kingdom (OECD, 2022[11]; OECD, 2020[12]; OECD, 2017[13]), and is particularly welcome. However, the current reform focuses on working parents by design, while the OECD recommended to prioritise low-income households. Monitoring the impact of the reform on inequalities between households is required, as analyses suggest that the reform will benefit about half of households with a child aged between nine months and two years, four-fifths of them with income above GBP 45,000 and only a fifth with yearly income below GBP 20,000 (Drayton and Farquharson, 2023[53]). Some adjustments may also be needed to attenuate a substantial cliff-edge effect for high earners, since support is limited to income below GBP 100,000, as discussed above.

The timeline set for the rollout of the childcare reform is fixed and particularly fast, hence creates significant implementation risks. The Department for Education designed a phased rollout to mitigate uncertainty around feasibility but has no contingency or flexibility in its timetable (Box 4.6). Childcare supply is expected to meet the additional demand from the first phase of the reform, which extends current support for the 3-5 year-olds to the 2-year-olds, given the number of 2-year-olds already using childcare. However, the National Audit Office judges the following two phases “problematic”, given the scale-up required to deliver the places requested for September 2024 and 2025 (National Audit Office, 2024[54]). Staffing risk is particularly high given widespread labour shortages in the care sector, as discussed below. The Department for Education estimates that providers need to recruit around 40,000 staff by September 2025.

Box 4.6. Staggered rollout of the childcare reform

Copy link to Box 4.6. Staggered rollout of the childcare reform

The expansion of childcare support to children of working parents with individual income of at least GBP 9,518 and at most GBP 100,000 is set to be delivered in three phases:

From April 2024, extension of 15-hours per week entitlements to 2-year-olds;
From September 2024, extension of the 15-hour entitlement to all children over 9-months-old;
From September 2025, increase of the entitlement to 30 hours per week.

Source: HM Government.

The UK government should develop contingency planning to reduce risks related to the childcare reform. Measures were taken to encourage the sector to expand, including increasing the funding rate paid to providers, launching a national communication campaign to promote careers in childcare, and investing about GBP 100 million in childcare infrastructure in 2023/24, but more is needed to deliver on such ambitious reform. Setting and monitoring interim performance milestones against the September 2025 targets would help anticipate whether and where corrective action is needed. If the supply of childcare places is expected to fall short of demand, priority could be given to lower-income households, for which the labour supply effect is likely larger and the benefit windfall, lower.

The government would do well to ensure that poorer parents are not priced out by higher childcare demand from wealthier households. The reform is ambitious and will increase childcare demand. As the largest buyer of childcare by far, the government will become price maker in the childcare market and responsible for the price for about 80% of all childcare hours in England (IFS, 2023[51]). It cannot afford to set the funding rate too high, given constraints on public finances; but it should not set it too low either, as providers would opt out of delivering the new entitlement, especially as they are no longer able to use the price charged to younger children to cross-subsidise pre-existing entitlements. Too low funding rates would create incentives for childcare providers to prefer providing hours above the entitlement at a premium, effectively pricing out less well-off parents. The Department for Education’s regular review of funding rates is essential to strike the balance between limiting fiscal cost and ensuring access. Quality should be monitored as well: the reduction in the staff-to-children ratio from one per four to one per five will lower required funding significantly, but may be detrimental to children’s wellbeing.

Full childcare support could be extended to the unemployed, possibly conditional on meeting specific activation requirements. The current system fails to completely support jobseekers in their job search, as the unemployed receiving Universal Credit must have a job offer to receive cash support for childcare beyond the entitlement available to all families. Excluding the unemployed from full childcare support is particularly unwelcome in the case of single parents of young children, who are no longer eligible for unconditional income support since the lone parent obligation reform. Increased stringency and penalties related to job search requirements under the Jobseekers’ Allowance appear to have harmed well-being for lone parents with weak previous labour market attachments and their children, rather than supporting transition into better quality jobs (Avram, Brewer and Salvatori, 2018[43]; Li and Avendano, 2023[55]). Extending full childcare support to the unemployed enrolled in strict activation programmes would effectively promote single parents’ job search.

4.4.2. Parental leave entitlements

Statutory maternity leave at 52 weeks is relatively generous in the United Kingdom, but only six weeks are paid at the statutory maternity pay rate of 90% of previous gross earnings, and 33 more are paid at a particularly low flat rate (HM Government, 2024[56]), so that maternity leave entitlement in full-rate equivalent (i.e., paid at 100% of previous earnings) is only about 12 weeks (Figure 4.15, Panel A). Statutory paternity leave, at two weeks paid at the same low flat rate or two days in full-rate equivalent, is largely insufficient to overcome earnings shortfalls when the father is the main earner. Such large differences between maternity and paternity leave entitlements not only perpetuate gender norms regarding unpaid work, but also dampen female labour supply and worsen mothers’ detachment from the labour market. Moreover, the United Kingdom is one of the few OECD countries without paid parental or homecare leave (Figure 4.15, Panel B).

Figure 4.15. Paid parental leave entitlements are unequal between women and men
Copy link to Figure 4.15. Paid parental leave entitlements are unequal between women and men

The UK government could increase the cap on paternity pay to limit earnings shortfall for fathers, as recommended in the 2022 OECD Economic Survey of the United Kingdom. The current Shared Parental Leave and Statutory Shared Parental Pay policies, whereby partners can share 50 weeks of leave and 37 weeks of pay, do little to attenuate gender imbalances as the pay cap is the same for mothers and fathers (OECD, 2022[11]). A smaller gap in paid maternity and paternity leave entitlements would likely shorten the out-of-work time for mothers while lengthening it only a little for fathers, thereby reducing the likelihood of detachment of any parent from the labour market and promoting labour supply (Causa et al., 2022[58]). Moreover, there is some evidence of a correlation between fathers’ leave taking and higher involvement in care and other unpaid work, which might be beneficial not only for children, but also for mothers’ labour market outcomes beyond the leave period (Fluchtmann, 2023[59]). The United Kingdom can draw from other OECD countries’ experience, for instance Nordic countries, which reserve parts of the parental leave period for the exclusive use of each parent; and Germany, which introduced bonus periods whereby parents can qualify for extra weeks of paid leave if both use a given amount of shareable leave. Data on leave uptake should be routinely collected to evaluate the appropriateness of parental leave policy to lessen gender inequalities, as recommended in the 2022 OECD Economic Survey of the United Kingdom.

4.4.3. Long-term care

Like childcare, informal long-term care (LTC) keeps individuals from the labour market, predominantly women. Thus, the availability of formal LTC, whereby assistance to people in need of care in their daily activities is provided by paid workers, promotes both labour supply and women’s labour market outcomes. While improving the availability and affordability of formal LTC constitutes a long-term challenge in most OECD countries, requiring significant increases in public expenditure on the back of ageing, the task looms particularly large in the United Kingdom as the fiscal space is limited and the government needs to ensure the long-term sustainability of public finances (Chapter 1).

Most LTC is provided informally in the United Kingdom, reflecting high out-of-pocket costs, but also the decline in formal LTC due to real cuts in public LTC spending. Moreover, public support for formal LTC is subject to strict financial means tests, with most people paying for at least part of their care, and individuals forced to exhaust their assets before receiving significant public support. Informal home help is the only form of care received by 70% of the 65-year-olds and older who receive some form of care in England, and by almost 60% of the 85-year-olds (Banks, French and McCauley, 2023[60]). Women account for 60% of informal carers, like OECD average (Figure 4.16, Panel A). Six out of ten informal carers aged 50 and above are not in gainful employment in England (OECD, 2023[61]).

Higher labour productivity and scale economies constitute an avenue to promote formal LTC availability and affordability in the United Kingdom, in a context of limited fiscal space. LTC is labour intensive, faces chronic staff shortages, and past spending cuts have likely dampened labour supply to the sector by putting downward pressures on wages, which are low in international comparison (Figure 4.16, Panel B). The end of free movement for EU workers added to structural staffing issues in the LTC sector, given high reliance on migrant labour, even though LTC occupations remain eligible for Health & Care Skilled Worker migration route under the recent migration reform, as discussed below.

Figure 4.16. Most informal carers are women and carers’ wages are low
Copy link to Figure 4.16. Most informal carers are women and carers’ wages are low

The UK government could continue promoting digitalisation to raise labour productivity in the formal LTC sector. The use of digital technologies can limit the time LTC workers spend on other activities than direct care provision (OECD, 2023[62]). For instance, comprehensive software packages can facilitate the planning of LTC provision and the sharing of information between different actors involved in care provision, reducing the time needed for administration and co-ordination. Moreover, sensors allow for remote monitoring of multiple care recipients simultaneously, which reduces the time required for monitoring itself and for transit between care recipients.

The government is advised to ensure that its long-term strategy for the formal LTC sector goes beyond spending review cycles, as population ageing only aggravates current challenges and requires longer-term planning. The Department of Health and Social Care set out its Ten-year Vision for Adult Social Care in 2021 (Department of Health and Social Care, 2021[63]), but uncertainty and changes regarding funding complicate the reforming and future-proofing of formal LTC. For instance, the scale-back of allocated funding in April 2023 forced the repeal of the implementation of a fixed lifetime cap on individual LTC expenditure. The reform would have created the conditions for a private LTC insurance market to emerge to insure costs below the cap, a development likely conducive to expansion in the formal LTC sector.

Recommendations in previous *Surveys*	Actions taken since the last *Survey*
Increase funding to reduce the cost of good-quality childcare, in particular for under 2 year olds, giving priority to low income households.	A major extension of childcare support was announced in spring 2023 and is being implemented. It will provide working parents with 30 hours of childcare per week for 38 weeks per year for each child aged nine months to five years in England, effectively offering a smooth bridge from parental leave as it expands the previous system limited to children aged three and above. The measure is expected to increase hours worked and employment significantly.
Increase the cap on paternity pay and relate it to father’s income.	No action taken.
Improve data collection of the uptake of parental leave in order to be able to evaluate effectiveness of current policies in reducing gender gaps.	No action taken.

4.5. Ensuring an adequate supply of skills to meet labour market needs

Copy link to 4.5. Ensuring an adequate supply of skills to meet labour market needs

Skills policy affects labour supply not only by promoting the accumulation of human capital, but also by improving the adequacy of skills with labour market needs, including by governing the migration of skilled labour.

In the United Kingdom, compulsory and especially higher education systems are strong, providing the future workforce with adequate skills, attracting students globally, and significantly contributing to the economy. However, too many young people leave education by age 18 with insufficient basic skills, so that an impetus on school-to-work transitions is required to boost labour market participation among early school leavers. More than one in four English adult is a low-performer in either literacy or numeracy, and only one in three adults is sufficiently proficient in problem solving in technology-rich environments (OECD, 2019[64]), compromising not only labour market outcomes but also further skills development. Moreover, skilled labour is in short supply in some essential sectors that are heavily reliant on skilled labour migration, including healthcare, calling for migration reform.

4.5.1. Apprenticeships

Better school-to-work transitions are required to boost labour supply by young people with low educational attainment. Too few workers have qualifications between secondary and undergraduate degree in the United Kingdom, reflecting the combination of high numbers of young people leaving school early and strong participation in university education. Upper secondary or postsecondary vocational education graduates only account for about 16% of the 25-64 year-olds, largely below the OECD average of about 26% (OECD, 2024[29]). The share of workers with intermediate qualifications, i.e., Level 4 and 5 qualifications, such as higher national certificate or higher national diploma, is low given the sectoral and occupational composition the British economy (Resolution Foundation, 2023[35]).

Dual vocational education and training, which combines school- and work-based learning, is particularly important to increase labour supply by youth, especially those with lower qualifications (Kuczera, 2017[65]). However, British employers in effect use apprenticeships to upskill current employees rather than hire and train young people with low skills (Kuczera and Field, 2018[66]), a shift particularly marked since the introduction of the Apprenticeship Levy in 2017 (Box 4.7). Almost 30% of new apprenticeships were for higher- and degree-level apprenticeships in 2021/22, versus less than five percent in 2015/16, and almost half of new apprentices are over the age of 25 in England, versus four out of ten in 2015/16 (Tahir, 2023[67]). At the same time, the number of new apprenticeships declined by 30%, likely reflecting the stricter regulation.

Box 4.7. Training subsidies under the Apprenticeship Levy scheme

Copy link to Box 4.7. Training subsidies under the Apprenticeship Levy scheme

The British apprenticeship system provides strong incentives to employ apprentices since the 2017 overhaul, as employers can access subsidies to effectively cover the full cost of apprentices’ training and assessment.

Employers with an annual wage bill above three million pounds are subject to a payroll levy of 0.5% –the so-called Apprenticeship Levy, essentially additional National Insurance Contributions for large employers– but can access apprenticeship subsidies equal to 110% of the amount of the levy paid. Smaller, non-levy-paying employers are eligible to subsidies equal to 95% of the apprenticeship cost, partly financed by unused funds from levy-paying employers. Since April 2024, small firms benefit from 100% subsidies for apprentices aged 21 and below.

Most of the levy revenue goes into the Apprentice Budget, which is used to subsidise the cost to employers of providing apprenticeships in England, while the other nations spend the funds on a broader range of skills programmes. After a period of adjustment in the first four years after the reform, during which English businesses used significantly less than their allocated funds, the quasi-totality of the budget was spent in the most recent years (Tahir, 2023[67]).

Source: HM Government.

The government would do well to refrain from broadening the scope of apprenticeship subsidies where there is no clear case of market failure. More flexibility can be warranted regarding the type of eligible training, as argued by several lobby groups (CBI, 2023[68]; LGA, 2019[69]), but effective regulation is necessary to ensure quality and limit subsidy windfall. Apprenticeship subsidies are justified by the existence of externalities from investment in industry-specific skills; by contrast, employers can fully internalise the return to investment in firm-specific skills; and investments in general skills are better addressed through individual learning accounts, as currently implemented in several OECD countries such as Belgium and France (Box 4.8). Therefore, any plan to broaden the use of levy funds to subsidise training other than industry-specific skills must be carefully reviewed, to ensure no public money is spent where externalities do not warrant it.

Subsidy rates under the Apprenticeship Levy scheme could be equalised across employers. No economic argument justifies higher subsidy rates for levy-paying employers; if anything, smaller firms are more likely to underinvest in training as they face relatively larger fixed costs and financial frictions, which could warrant higher subsidy rates (OECD, 2021[70]). Moreover, different rates create administrative complexity, both for firms, for instance as they use the option to transfer their unused levy funds to non-levy-paying employers within their supply chains, and for the government, for instance to assess compliance. Subsidy rates could be equalised at 95%, the rate currently enjoyed by small firms, as the 110% rate enjoyed by levy-paying firms does not appear justified by either private or social returns to training, but is instead an artefact of the levy’s earmarking to the Apprenticeship Budget.

Box 4.8. Individualising training access schemes: the case of France

Copy link to Box 4.8. Individualising training access schemes: the case of France

The French personal training account (Compte Personnel de Formation, CPF) is an individualised financing scheme for professional training in which training rights are accumulated over time. Introduced in 2015, the account is open to all economically active persons, and is fully transferable throughout the individual’s working life, from the time they enter the labour market until they retire.

The account was reformed in 2018 to improve access to training for low-skilled workers and jobseekers. The personal training account was previously measured in training hours, but has now been monetised in euros, a move to correct the disparities in hourly training costs. The amount of the annual payments is based on workers’ skills: each worker has EUR 500 per year in his CPF to pay for training, and the least skilled have EUR 800 (up to a ceiling of EUR 5,000 and EUR 8,000 over ten years, respectively). The reform also introduced guidance for potential beneficiaries, as well as controls of the quality of and information about the training provided. Part of the funds dedicated to professional training and apprenticeship are earmarked for career advice (Conseils en Évolution Professionnelle, CEP).

Source: Perez and Vourc’h (2020[71]).

4.5.2. Adult training

Overall participation in adult learning in the United Kingdom is above the OECD average, but very unequal across education levels (OECD, 2024[72]). Lower-educated people train far less than their peers in other OECD countries (Figure 4.17, Panel A), with a dramatic decline in the number of adult learners studying in publicly funded qualifications at level below upper secondary education since the 2000s, partly due to reforms intended to reduce participation in low-quality, low-return courses (Tahir, 2023[67]). Moreover, the intensity of employer-provided training, as measured by the average number of training days per trainee, fell steadily from eight days in 2011 to six days in 2022, even though participation remained fairly high at about 60% of the workforce (Tahir, 2023[67]). Weak engagement with adult training at the lower end of the skill distribution is an important issue given the number of people with low basic skills, an estimated nine million in England alone (OECD, 2020[73]).

Figure 4.17. Lower-educated people train little and public spending on activation is relatively low
Copy link to Figure 4.17. Lower-educated people train little and public spending on activation is relatively low

Public funding of adult training has been declining since the 2000s. Formal, classroom-based adult training funding fell by 25% in real terms, with a marked decline in lower-level qualifications funding (Tahir, 2023[67]), and despite the additional funding to adult education and apprenticeships set for 2024/25 in the 2021 Spending Review (HM Treasury, 2021[74]). Most of the decline comes from real-term decreases in funding rates, as nominal funding rates have not changed since 2013 for most courses. Even where funding rates where increased, as was the case for basic level English and mathematics courses in 2015/16, the real value of funding fell by about 20% (Tahir, 2023[67]).

The UK government is advised to review the nominal freeze of funding rates for adult learning and ensure that rates effectively reflect training costs. Changes in participation, in the qualification composition of adult training and in labour market demand likely warrant adjustments to funding rates, but these should be based on thorough assessments, instead of inflation-driven, arbitrary real value erosion. Adjusting funding rates at the course level to cover the true cost of delivering each specific course would promote educational output quality, hence learners’ labour market prospects and possibly continuation into further education. Further targeting may be warranted, as returns to adult education are heterogenous and depend on age and prior education level (Kauhanen and Virtanen, 2021[75]). The government is introducing new rates for the coming academic year, with the stated intention to provide higher funding in areas of greatest skills needs and for courses with higher cost of delivery. Funding rates could be assessed as part of the next spending review.

Assessing whether the relatively low training intensity among the low-skilled is demand- or supply-driven is complicated by the lack of internationally comparable data on public expenditure on training. The United Kingdom has not provided disaggregated data regarding labour market programmes to the OECD and other international organisations since 2011 (OECD, 2024[76]); only total spending on active labour market policies is available, and appears relatively low (Figure 4.17, Panel B). Cross-country comparable data is essential to assess labour market policies in international comparison and learn from best practices, including the United Kingdom. Re-establishing a data provision agreement between the Department for Work and Pensions and the OECD would help.

4.5.3. Skilled migration

Immigration has reliably added to the British labour force in the past, as the foreign-born are more likely to participate in the labour market than the native-born (Figure 4.18, Panel A). Exceptionally large migration inflows have been boosting labour supply, with very large immigration of non-European Union nationals dwarfing emigration of European Union citizens since the end of free movement for European Union workers (ONS, 2023[77]), although uncertainty about actual levels remains (Box 4.1 above). Immigration into the United Kingdom appears to have contributed more than one percentage point to the growth in the labour force in 2023, versus half a percentage point on average over the 2010-2019 period (OECD, 2024[6]).

The composition of migration flows shifted in the wake of the pandemic towards groups with lower participation rates, such as students and dependants. The number of visas granted increased across the board, reflecting a range of factors including the influx of Ukrainian refugees and of British Nationals (Overseas) from Hong Kong (China), but the rise in numbers is particularly marked for students and dependants (Figure 4.18, Panel B). A new immigration package, introduced in April 2024 with the intention to curb migration and reduce abuse, is likely to attenuate the shift by raising salary thresholds, as discussed below, and by restricting possibilities to bring family dependants.

Figure 4.18. Migration is an important source of labour supply
Copy link to Figure 4.18. Migration is an important source of labour supply

The new immigration package is expected to reduce demand for foreign labour and skills. The reform raises salary thresholds by almost 50%, both the general one and those for occupations formerly eligible for a discount (Box 4.9), thereby increasing the cost of migrant labour. Moreover, occupation-specific thresholds prevent pay below median salary in many occupations. Eligible health and care occupations constitute an exception, with salary thresholds left at the 25^th percentile of the occupation-specific full-time salary distribution against the backdrop of important labour needs in long-term care and the NHS (Home Office, 2024[79]).

Box 4.9. The immigration system and salary thresholds

Copy link to Box 4.9. The immigration system and salary thresholds

The current immigration system, in force since the end of free movement for European Union workers, comprises three main migration routes, namely for skilled workers (“skilled visa”), for scientists and researchers (“global talent scheme”), and for international students (“student visa”, plus a “graduate visa” upon completion of a degree in the UK), with obtention criteria mainly based on general or occupation-specific salary thresholds, qualifications and, until recently, occupational shortages (HM Government, 2021[80]).

Occupations on the shortage list benefited from 20% lower general salary thresholds –the so-called 20% going rate discount–, and specific occupations had thresholds set at the 25^th percentile of the occupation-specific full-time salary distribution (HM Government, 2024[81]).

The new immigration package replaces the shortage occupation list with a list of occupations for which employers can recruit migrants on a salary below the general threshold –the so-called Immigration Salary List. Eligible health and care occupations benefit from a lower threshold.

Source: HM Government.

The UK government would do well to assess the impact of the reform of salary thresholds on both domestic demand and foreign supply of skills. The overall increase in thresholds might make the skilled visa route unavailable for many occupations, as the occupation-specific median salary is likely to be binding in many cases (Migration Advisory Committee, 2024[82]), possibly creating shortages. Moreover, while the rationale for preventing employers from paying migrant work below the 25^th percentile of the occupation-specific salary was related to labour exploitation concerns, the rationale for preventing pay below median salary is less clear.

Differences in salary thresholds for similar occupations depending on whether they are eligible for the Health and Care Workers visa could be reviewed. Only employement with the NHS, a private provider working for the NHS, or in adult social care (i.e., publicly-funded employment) benefit from the exemption from the general or occupation-specific salary thresholds, so that a given job may face different thresholds depending on whether it is publicly or privately funded (Migration Advisory Committee, 2024[82]). Moreover, while the exemption supports public finances in the short run by reducing pressures on the budget of the NHS and local authorities responsible for delivering public long-term care, it does not contribute to making health and care occupations more attractive to domestic workers, even though staff is needed across the board. Better employment conditions are a necessary complement to labour migration to alleviate shortages in the sector, possibly improving the availability of formal long-term care services, and thereby promoting labour market participation of informal carers, mostly women, as discussed above.

Recommendations in previous *Surveys*	Actions taken since the last *Survey*
Monitor the incentives set by the apprenticeship levy and ensure apprenticeships are taken up by low skilled workers and early school leavers.	Since April 2024, small firms benefit from higher subsidies for apprentices aged 21 and below.
Ensure that training opportunities for adults are of high quality and respond to identified skills need.	GBP 50 million were committed for a two-year pilot to promote apprenticeships in high-value manufacturing, engineering, and life science. Funding was increased for Skills Bootcamps, designed for training, retraining, and upskilling learners in high-growth sectors, focused on digital, green, and technical skills; and for the Sector-based Work Academy Programme, designed to provide jobseekers with work experience.
Use statistical tools to target training to low skilled workers affected by digitalisation and the green transition to strengthen their skills to transit to new jobs.	No action taken.
Ensure that the migration system is sufficiently flexible to address quickly rising labour shortages.	The new immigration package introduced in April 2024 raises salary thresholds and is expected to reduce demand for foreign labour in most sectors.

MAIN FINDINGS	RECOMMENDATIONS (key in bold)
Designing taxes and benefits better to strengthen work incentives
Incapacity assessment focusses on individuals’ limitations rather than abilities, so that claimants risk losing their incapacity benefits if they re-enter the labour market despite their health condition. Activation is weak for the long-term sick, with little engagement for either return to work or a reassessment.	Reform the Work Capability Assessment so that income support is not conditioned on being found incapacitated for work. Strengthen early interventions and formal return-to-work pathways, and introduce transitional disability programmes.
The freeze of personal tax thresholds weakens work incentives, including for low-income workers and despite cuts in the rate of National Insurance Contributions.	Index personal tax thresholds to inflation, prioritising National Insurance Contributions thresholds if fiscal space is constrained.
The taper of several allowances at arbitrary levels creates kinks in the income tax schedule and weakens work incentives. Combined with high childcare costs, the threshold for childcare entitlement creates strong work disincentives for high earners.	Consider abolishing the High-Income Child Benefit Charge and offsetting the fiscal cost by raising the Higher Rate for income tax. Assess the impact of the threshold for childcare entitlement on labour supply, demand for childcare services, and public finances.
Continuing to step up family policy to promote female participation
The fast timeline for childcare reform, the lack of contingency planning, and staff shortages create implementation risks. Low funding rates could incentivise childcare providers to prefer hours above the entitlement at a premium, hence pricing out the less well-off. The unemployed need a job offer to receive cash support for childcare beyond the free 15 hours for 3-4 year-olds, complicating job search.	Set and monitor interim implementation milestones, and prioritise low-income households if childcare supply falls short of demand. Review childcare funding rates regularly to strike the balance between limiting fiscal costs and ensuring quality access. Extend full childcare support to active jobseekers.
Parental leave entitlements are substantially lower for fathers, perpetuating gender gaps in labour supply.	Increase the cap on paternity pay to limit earnings shortfall for fathers.
Most long-term care is provided informally, predominantly by women, on the back of staff shortages and declining public spending on formal care.	Promote digitalisation to raise labour productivity in the long-term care sector, and ensure funding certainty to enable long-term planning.
Ensuring an adequate supply of skills to meet labour market needs
Employers increasingly use apprenticeships to upskill current employees, rather than hire and train young low-skill people and early school leavers. Large firms benefit from higher apprenticeship subsidy rates, even though small firms face relatively larger barriers.	Reduce subsidy rates for current employees under the Apprenticeship Levy scheme and channel support to young people. Set the subsidy rates under the Apprenticeship Levy scheme at 95% of training and assessment costs for all firms.
Public spending on adult training fell markedly in real terms since the global financial crisis.	Increase funding rates for adult learning and ensure that they effectively reflect training costs.
The immigration reform raises the cost of migrant labour, preventing pay below median salary in many occupations.	Assess the impact of the reform of earnings thresholds on both domestic skills demand and foreign skills supply.

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