The Employment Rights Act’s True Cost

Businesses were already bracing themselves for the Government’s contentious Employment Rights Act. They might need to strap themselves in, too; the Impact Assessment released by the Government last week suggests that the costs to firms have been significantly underestimated. Not only is the Impact Assessment itself transparent about many of its own methodological shortcomings, several major aspects, such as the entire cost of establishing collective bargaining, are excluded from the headline cost to businesses.

So, what does the Impact Assessment say? The benefits of the Act are, unsurprisingly, diffused across over 18 million workers while businesses, particularly SMEs, will bear the brunt of the costs. The Impact Assessment itself is transparent about the “transfer” from employers to workers that will take place. For example, it estimates that Statutory Sick Pay reforms alone will transfer around £400 million from employers to employees, and new protections for workers on zero-hours contracts will increase income security for workers at the expense of businesses who lose flexibility.

The intention behind these policies is to improve job satisfaction and wellbeing for employees. This is a legitimate objective, but it will come at a cost. And given low growth, weak business confidence and the recent rises in the minimum wage and employer National Insurance Contributions, is now the right time for this policy package?

Given low growth, weak business confidence and the recent rises in the minimum wage and employer National Insurance Contributions, is now the right time for this policy package?

Firstly, it is worth noting that the net present value (a measure of the net gain to society) of the Employment Rights Act is valued at £2.8 billion over 10 years. To be fair, this is because it is much harder to put monetary values on some potential, nebulous benefits of the Act — such as improved wellbeing — but this does not put this policy package on a strong economic footing to begin with.

The Impact Assessment values the direct cost to businesses at around £1 billion per year once the Act is fully implemented, but there is reason to believe that the actual costs to businesses could be significantly higher. Cost-benefit analyses of economy-wide policies such as the Employment Rights Act are inherently difficult to model. The word “uncertain” appears a staggering 81 times in the Impact Assessment. Because of this uncertainty, the Impact Assessment includes an upper-bound scenario, considered less likely, which sees employment costs rise by 0.4%, which would cost businesses closer to £4 billion rather than £1 billion.

The word “uncertain” appears a staggering 81 times in the Impact Assessment

Despite the net societal gains the Impact Assessment claims, five of the eight highest-impact policies within the Act are reported to have an “uncertain” net impact on society. This is because the benefit to workers is directly counterbalanced by the cost to businesses, and wider impacts are subject to further policy developments or the behavioural responses of different agents. For example, the right to guaranteed hours and reasonable notice of shifts could have an aggregate cost to business of somewhere between £100 million and £1 billion each.

In some cases, since they are subject to future policy design decisions, policy impacts of the Act are not quantified at all. This means that the actual costs to businesses could increase significantly above initial estimations. This is the case for the proposal to establish a Fair Pay Agreements (collective bargaining) process in the Adult Social Care sector, which the Impact Assessment reports could alone cost businesses “over £1 billion” each year — far more than the Impact Assessment’s entire headline figure for the costs to businesses. Policy Exchange’s own estimate, puts the bill at £4 billion a year.

Trade Union reforms will see increased bargaining power for unions which will lead to further wage pressures on businesses, as well as spillover effects into other sectors. Despite the huge potential costs associated with this proposal, these impacts are not monetised in the Impact Assessment and therefore present another area where costs have been significantly underestimated.

There is also a risk that the Act damages the employment prospects of the same workers that it aims to support, as increasing employment costs results in reduced labour demand. This is acknowledged in the Impact Assessment, which says that these risks will be minimised through business and union consultations — although it does not state what such mitigation might look like.

The Impact Assessment even suggests that the Employment Rights Act could lead to economic growth, which seems highly unlikely. It does not account for any ‘second-round’ impacts such as the behavioural response of businesses to increases in labour costs – but as we have seen with rises in National Insurance Contributions, ramping up the total costs faced by firms is bound to have a damaging economic effect eventually.

It does not account for any ‘second-round’ impacts such as the behavioural response of businesses to increases in labour costs

Increasing wages is generally a sensible objective for any Government to have. But this is best achieved through economic growth, not increasing regulations on businesses. There are many opportunities for growth, many of which have been laid out in Policy Exchange’s Policy Programme for Prosperity, which addresses key issues including planning reform, public spending and the healthcare system. Instead, the Government is increasing the burden on business, not only through the Employment Rights Act, but through other policies and tax rises that have significantly increased costs and disincentivised investment.

Improving employees’ rights is also a legitimate goal. During Tony Blair’s tenure, the Working Time Regulations 1998 saw improvements to workers’ holiday entitlements, as well as various restrictions on weekly working hours, among other similar measures. The key difference is that from 1992-1998 the economy had grown by 20% in real terms. In the last six years, it has by just 5% growth.

The Government has said that economic growth is its top priority, but this is not being reflected in its policies. If it was to genuinely put growth first, it would delay or cancel the implementation of the Employment Rights Act. Stated preferences are one thing; it is revealed ones that matter in politics.

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