Measuring living standards with income and consumption: evidence from the UK

1. Measuring living standards with income and consumption: evidence from the UK Mike Brewer (University of Essex, IFS) & Cormac O’Dea (IFS) www.iser.essex.ac.uk/publications/working-papers/iser/2012-05

2. Outline of paper • We document the mis-match in the UK household budget survey (LCFS) between reported income and reported spending for households with low resources • We present evidence that this is more likely due to under-reporting of income than over-reporting of spending or consumption-smoothing • We document the high (and growing) under-recording of expenditures in the LCFS relative to National Accounts • Evidence suggests that spending reported by low-spenders is more likely to be accurately recorded than that of high-spenders • We compare impressions of trends in the level and inequality of living standards in GB according to consumption and income • Consumption includes imputed rent from housing • We describe what different impressions we get about the composition of households with low living standards if we identify such with consumption, rather than income

3. Outline of talk • We document the mis-match in the UK household budget survey (LCFS) between reported income and reported spending for households with low resources • We present evidence that this is more likely due to under-reporting of income than over-reporting of spending or consumption-smoothing • We document the high (and growing) under-recording of expenditures in the LCFS relative to National Accounts • Evidence suggests that spending reported by low-spenders is more likely to be accurately recorded than that of high-spenders • We compare impressions of trends in the level and inequality of living standards in GB according to consumption and income • Consumption includes imputed rent from housing • We describe what different impressions we get about the composition of households with low living standards if we identify such with consumption, rather than income

4. Those with the lowest cash incomes do not have the lowest cash outlays... (call this a “tick”) Notes: LCFS 2009; Great Britain only

5. ...but those with the lowest cash outlays do have the lowest cash income Notes: LCFS 2009; Great Britain only

6. What explains the tick? • Over-reporting spending • Unlikely. In any case, get similar tick-charts if we plot income vs other measures of living standards • Dis-saving • Hard to say: no good direct measure of saving in UK, and no data on saving, income and consumption for the same individuals • However, very hard to reflect size of tick using simulated data (produced by intertemporal consumption-saving model with dynamic income process calibrated to match longitudinal income data) • Under-reporting income • Yes! Income from some cash benefits substantially under-reported • NB get similar results for other UK household datasets, so problem not survey-specific • But suspect very lowest incomes due to omission of private income

7. “Missing” income from state benefits in UK household budget survey Notes: based on Barnard (2011) analysis of LCFS 2009 and 2010 and previous editions

8. Three ways to measure living standards • “Cash income” • “Broad income” starts with cash income but • adds some benefits-in-kind & imputed income from housing & cars • deducts income which is immediately saved • “Consumption” starts with all cash spending but • deducts outlays which represents saving • adds consumption stream from housing less spending on housing • Consumption stream imputed by regressing private rents on quadratic in council tax payments interacted with government office region, and number of rooms • adds consumption stream from vehicles • All households assigned average recorded expenditure (inc zeros) on vehicles of those in same year of data, with same education, and with same number of cars • NB we count expenditure on other durables as “consumption” • NB do NOT deduct childcare, medical or education expenses

9. Relative poverty rate, cash income (<60% of median household income)

10. Relative poverty rate, broad income (<60% of median household income)

11. Relative poverty rate, consumption (<60% of median household income)

12. Bottom decile by age and cohort, cash income

13. Bottom decile by age and cohort, broad income

14. Bottom decile by age and cohort, consumption

15. Relative poverty rate by age and time, cash income

16. Relative poverty rate by age and time, broad income

17. Relative poverty rate by age and time, consumption

18. Summary • Big mis-match in the UK household budget survey (LCFS) between reported income and reported spending for households with low resources • More likely due to under-reporting of income than over-reporting of spending or consumption-smoothing • We document the high (and growing) under-recording of expenditures in the LCFS relative to National Accounts • We compare impressions of trends in the level and inequality of living standards in GB according to consumption and income • Composition of households with low living standards changes if we identify such with consumption, or broad measure of income, rather than cash income • The elderly do not look poor, especially the baby boomers! • Mostly arises by imputing income to owner occupiers

19. Spare slides

20. Income and expenditure “coverage” of LCFS

21. Household saving ratios Corr = -0.7

22. Where in the distribution of household expenditure (or of income) is this under-recording happening? • There must be serious under-recording at the top of the expenditure distribution (these are aggregate numbers so are dominated by effect of those who spend the most) • But is there more happening at the bottom of the expenditure distribution? • Look at expenditure coverage by category

23. Coverage: groups (1)

24. Coverage: groups (2)

25. Coverage: groups (3)

26. Where in the distribution of household expenditure (or of income) is this under-recording happening? • There must be serious under-recording at the top of the expenditure distribution (these are aggregate numbers so are dominated by effect of those who spend the most) • But is there more happening at the bottom of the expenditure distribution? • Look at expenditure coverage by category • Those items with the ‘best’ coverage are those that those with the least expenditure spend more on than those with the most expenditure • Suggestive that under-reporting of expenditures is greater among those with the most resources

27. Deprivation and income for children in UK Source: Brewer, O’Dea, Paull, Sibieta (2009). Households with children only. Based on FRS 2004/5 to 2006/7

28. How well is income from benefits captured in LCFS? Notes: based on Barnard (2011) analysis of LCFS 2009 and 2010