National Insurance and Unemployment - Chains of Reasoning

In this video we explore two analytical chains of reasoning on how the rise in national insurance (tax) might affect unemployment.

Analyse how a rise in national insurance might affect unemployment in the UK economy

Chain of reasoning (1)

• National insurance is a direct tax on earned income. The UK government has announced a 1.25% increase from April 2022 to help fund health and social care.
• As a result, higher national insurance contributions will lead to a fall in the real disposable income of millions of households.
• So, if disposable income drops, people have less spending power and therefore consumption will decline
• Since consumer demand is the biggest % of AD, this tax rise might lead to a contraction of real GDP
• Consequently, businesses will reduce output and may decide to control costs by reducing their payroll
• This can then cause an increase in cyclical (or demand-deficient) unemployment

Chain of reasoning (2)

• National insurance is also paid by employers including thousands of small businesses
• So, a rise in national insurance will increase the average cost of employing all workers and lift the marginal cost of taking on new workers
• This will lead to an increase in business operating costs and a probable fall in operating profits
• Some businesses will raise prices, others might delay planned pay rises for staff, and some will cut employee hours or find other ways to control their costs
• But if businesses decide to scale back employment because of the tax rise. Then this will lead to a fall in employment and cause a rise in the unemployment rate