Ed Miliband’s mission should be to uphold the social contract without being accused of profligacy

Last Wednesday, the chancellor, George Osborne, delivered a report card on a stuck society. The tally made grim reading: austerity extending into 2018, targets missed and, according to the Institute for Fiscal Studies, further cuts of £27bn to come, with growth possibly returning only in 2014. All bad news for UK plc. For millions on benefits, there was worse news about one of the remedies the chancellor has chosen, a strategy that also represents a trap set for Labour that could frame the battle for the 2015 election. It is a measure that has prompted protest across a swath of civic society, including leading charities and faith leaders.

The device is simplicity itself. The chancellor has announced his intention to pass legislation in January to lock tax credits and social security benefits into an “increase” or uprating of only 1% for the next three years, saving £3.8bn. Recent surveys indicate that, while the welfare state is broadly valued, perceived abuses by “scroungers” and those who receive extensive support while making little or no contribution to the welfare pot are not. A consensus exists that the welfare state, moulded by the Beveridge report, 70 years old last month, is no longer fit for purpose, not least because it was conceived when full employment was assumed and when the majority died before many years of pension had been taken. The dominant Tory narrative is that the benefits side of the welfare state has become an incubator of broken Britain and fecklessness, much of it Labour’s responsibility. It’s a political tale that holds credence for many voters.

Labour’s dilemma therefore is how to vote on the welfare uprating in January. Osborne’s calculation is that, if Labour votes against the measure, it could restore its reputation for reckless spending and wastefulness. But a vote in favour of effective cuts to some of the poorest people in the country, including millions within working families, would cost its reputation dear among its supporters.

However, there is a further possibility, one that Labour is now said to be exploring – that it tables a number of substantial amendments to the proposals that would allow it to articulate its hostility to the plan within the framework of a positive alternative. If the trap is successfully sprung, it could cause significant damage to the coalition and cement Ed Miliband’s reputation for political courage and for speaking on behalf of a wide range of disadvantaged Britons. What is required to pull that off is a strategic fluency that Labour has yet to display and boldness, courage and imagination.

Make no mistake. The 1% uprating means that for the first time since 1931, the income of the poorest will fall as a deliberate act of government policy. Inflation for the period that the 1% cap lasts is expected to run at 2%. However, those on limited income spend more on food, fuel and water than the rest of the population and each is rising faster than inflation. Absolute poverty, the choice, say, between food and heating is already being reported in Glasgow, London and Birmingham. The financial ramifications go further. They also hit the squeezed middle. Working families will weather 60% of the cuts to come. According to the TUC, a family of four will see a cumulative real-term cut of £2,800 by 2015/2016. There is also the wound to the civic body. The Osborne trap shatters the social contract that mitigates risk and provides an adequate income to all. So how should Labour proceed?

First and urgently, it needs to challenge the toxic myths. The state can and should be a positive element, a catalyst for growth. Second, Labour must detail what a reconfigured social contract looks like and how to ensure a fairer redistribution of opportunities, incomes and resources. Third, it has to reclaim some of the more positive aspects of its time in power – working tax credit helped to lift more than a million children out of poverty – and lay out what it means by a One Nation welfare state.

Once the propaganda is stripped away, who truly gets what from the welfare state? Cameron has said that more than £5.2bn is lost in benefit fraud, but £4.2bn of that is due to government error. According to Professor Marjorie Mayo’s research, intergenerational worklessness accounts for under 2% of the working population, too many but hardly an epidemic. A study by the New Policy Institute says that as a share of national income, total spending on benefits and tax credits has never been higher at 13% of GDP. It’s a sign of rising state dependency but not quite in the way that Iain Duncan Smith, the work and pensions minister, describes.

In 1948, the single rate of social assistance was worth 18% of earnings. Now it is worth 11%. Of the £53bn rise in spending after inflation, only £2bn was accounted for by unemployment benefit; £10bn pounds goes on housing benefit because too few affordable houses are built. Another £17bn is spent on family benefits and tax credits subsidising low wages, a situation that would have left Beveridge incredulous. And pensioner benefits take a further £24bn, the largest slice. Sixty per cent of children in poverty live in working households and four in 10 jobs are self-employed, temporary or short term. The original welfare state has morphed into one that props up a risky labour market, employers, corporations and landlords while a nation of strivers in too many instances works for less than it takes to feed a family.

There are those who fiddle the system, but that shouldn’t deter Labour from mapping the true terrain of today’s shambolic welfare state. The still tougher challenge is laying out what takes its place. Should a mansion tax pay for universal childcare? Should pensioners forfeit perks or Labour impose a higher corporation tax? In Sweden, in the early 90s, the deficit increased tenfold. Cutting the benefits bill was achieved through growth and employment. The richest paid most and more was invested in education rather than income transfers such as maternity and paternity pay and unemployment insurance. Now, Sweden has generous unemployment benefit but only for a period and employers have to help the jobless to reskill. Is that the kind of society Labour has in mind?

Labour’s Liam Byrne said “working, saving, caring” were the principles of a One Nation welfare state. So how does that rhetoric transform into affordable policies? The bill allows Labour to reveal some of its grand design, one that, it’s hoped, refuses to balance the books on the backs of the poor but instead sets radical new priorities so that a fair investment in families and children secures a decent future for us all.

Observer Editorial 6th January 2013