On the impact of increasing mandatory redundancy payments

The Independent reports:

The minimum amount of money that employers must pay staff they make redundant is set to be increased by the Government, The Independent has learnt. In another attempt to ease the pain of those worst affected by the recession, ministers have launched a review of the minimum payments to which people are entitled by law when they lose their job. With around 1,500 posts being axed each week, unemployment will soon pass the two million mark and could eventually rise to more than three million.

The plan emerged on the day that the Bank of England reduced interest rates to 1 per cent, the lowest in its315-year history, and warned of a “severe and synchronised downturn” in the global economy.

At present, statutory redundancy pay is based on a week’s pay for each full year’s service between the ages of 22 and 41, and one-and-a-half week’s pay for older workers. Total payouts are capped at £7,000 and £10,500 respectively because wages above £350 a week and service of more than 20 years are ignored. Some 46 per cent of the workforce earns more than £350 a week. But Lord Mandelson, the Business Secretary, plans to propose a more generous scheme in his submission to the Chancellor Alistair Darling ahead of the Budget this spring.

Although no decision has been made, a big one-off rise in the £350-a-week limit is under consideration.

Other options include lowering the qualifying period for redundancy payments from two years’ service to one year, and raising the tax-free limit for more generous pay-offs. Since 1988 the first £30,000 has not been subject to tax, but the TUC wants it raised to £50,000. However, ministers may decide to focus any help on lower-paid workers by boosting minimum payments.

MPs and unions have launched a campaign for higher payoffs because the maximum pay figure used in the formula has declined from 203 per cent of average weekly earnings when the scheme was launched in 1965 to 56 per cent today. They want the limit linked to earnings rather than inflation in future. But employers are warning that at a time when many firms are desperate to keep costs down, bigger payouts could result in more job cuts.

Certainly, for those made redundant, an increased redundancy payment will help them get through their period of unemployment. However, as Guy Herbert points out, this is not the only impact such a measure has.

There are several negative effects from such a move:

  • If a firm is considering making redundancies in order to cut costs, then an increased redundancy payout will encourage them to lay people off earlier than they otherwise would – if they were to employ the person for a longer they have to pay them their wages plus the redundancy payout. In marginal cases, this can make the difference between an employer holding onto a worker during the recession and letting him go. E.g. employers who try to hold onto someone until business picks up will find it more risky to do so – the cost of holding on to someone only to let them go if things don’t go as well as expected will have gone up.
  • The measure effectively increases the cost of labour by increasing the overheads associated with employing someone. It will thus make employers more averse to hiring people in the first place.
  • By increasing the costs businesses incur, they also increase the risk of the business failing completely and being unable to make redundancy payments.

This measure thus seems counterproductive to me, in that it is liable to increase the amount of unemployment and prolong the recession.

The only people to benefit from this are those who would have been made redundant anyway, and even there, by making employers more averse to hiring, this benefit may be offset by prolonging the period of unemployment.

A further point: By announcing that minimum redundancy payment increases are being considered, the government is encouraging any company considering making people redundant to do so before any such changes are made.

I wonder if the government consider such issues before pronouncing on something.

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