A Social Insurance Scheme based on the contributory principle is one in which the beneficiary acquires benefits as of right.  Usually the benefit is acquired by reason of a contribution (usually a cash contribution), though provision may also be made for "attributed" contributions for persons who have to leave the work force for such reasons as illness or unemployment.

This point was made admirably by Professor Pete Alcock in his memorandum.

Under a contributory scheme, with a set of defined benefits, the government can say "not a penny more" and the beneficiary cans say " and not a penny less." It is a fundamental precept of the Contributory Principle  that any such scheme shall be administered with absolute parity.

A good example is the German Federal Republic with a contribution-based Social Insurance system. In one case, the Constitutional Court  heard a challenge to a government attempt to intervene in the operation of the scheme. It ruled that  "contributory pension rights should be seen as the 'property'  of the contributors and therefore the state must justify occasions when pensions rights are withdrawn if a person leaves the country." The case law became incorporated into subsequent revisions of the RVO, and altered the policy towards the payment of benefits abroad.

Equally, the European Court of Human Rights has upheld the basic principle that contributions give entitlement to benefit, notably in the case Gaygusuz v Austria.

HISTORICAL BASIS

The origin of the British National Insurance Scheme lies in the Beveridge Report of 1942. Under Beveridge's plan, the contribution would be set at a level that most people could afford, and the benefits would be set at a level on which few people could live comfortably.

The level of benefits was to be such as to strike a nice balance between the alleviation of poverty and the encouragement of welfare dependency. The citizen would have an incentive to make additional private provision beyond the benefits of the universal State scheme, by membership of occupational pension schemes, by private thrift or by other means.

MEANS TESTED BENEFITS

In the Memorandum submitted the Centre for Policy Studies, a contributory scheme is contrasted with a scheme based on means tested benefits. The Centre advanced the opinion that the contributory principle is dead, and proposed a  radical change that would involve integration of the tax and welfare systems.

Based on Australian experience, we believe that this approach has certain fundamental weaknesses. Perhaps this is good economics from a purely academic  point of view, but it ignores some human traits which make a means tested system less attractive than a contributory scheme, as Frank Field MP has argued so persuasively.

A means tested scheme is often described as a "targeted" scheme of benefits. This term has a certain attraction, and seeks to avoid the unfortunate connotations that went with the harsh means tests of the early 1930s. But a change of name does not change the nature, nor the weaknesses, of a means tested approach.

Means tested benefits tend to divide the population into four groups.

1. Group 1 consists of people whose means place them beyond the reach of the means tested benefits.

2. Group 2 consists of people who are entitled to benefit, get what they are entitled to, and make sure that they do.

3. Group 3 consists of people who get less than they are entitled to, perhaps because of lack of publicity about available benefits, or perhaps they feel it an insult to their dignity to have to go "begging" for their benefits.

4. Group 4 consists of people who "work the system", whether by exploiting legal loopholes or by outright fraud. There then ensues a continuous battle between one group of experts who discover and exploit the loopholes, and another group of experts who devote their time to closing the loopholes. This is, of course, a well known phenomenon of the tax system, but it applies with equal force to social security benefits.

One of the effects in Australia has been a divergence of the definitions of "income" for taxation purposes and for social security purposes, resulting in much misunderstanding and resentment..

Another effect of the means test system is that over some ranges of income the "effective marginal rate" of attrition is very high. To ascertain the EMR one adds the rate of reduction of benefit due to marginal rises in income, the reduction of tax relief for low income earners, and the tax at marginal rates on the additional marginal income. EMR can be as high as 66% or more, a rate which greatly exceeds the marginal tax rate suffered by the richest individuals. Over another range the EMR is 40%, due to tax on marginal income and shading in of the medicare levy; in this case the medicare levy has to be seen as a "means tested levy" rather than a means tested benefit, but the results are the same - for each $1 of income the beneficiary retains only 60 cents.

One other effect that should be noticed is the effect on the "fringe" benefits. 

Commonwealth pensioners are entitled to a pensioner health card which confers many benefits. First, and most obvious, is the reduction in the cost of medical attention and prescription medicines. But the benefits extend also to the private sector, since many businesses such as tour operators, banks, entertainment providers, restaurateurs and others provide special terms to holders of such cards. Self funded retirees sometimes get benefits and sometimes do not. The benefits of the card are so great that pensioners whose private income is close to the threshold fear to earn more, lest they lose the benefits of the card.

PAY-AS-YOU-GO

We wish to make comment also on the "pay as you go" principle. Under this principle, no reserve is built up out of current contributions to provide for future benefits.

Benefits from a scheme of social insurance can be divided into long term and short term benefits. The concept is commonly used in distinction between different classes of insurance - life versus general - and it also arises in life insurance and allied fields when considering the future benefit of a lump sum or pension at maturity, and the immediate benefit paid on death or certain other contingencies.

It is useful to use the same concepts in a system of National Insurance.  The long term benefit is pre-eminently the age pension, plus, to a lesser extent, the widows' pension. Short term  benefits are unemployment and sickness benefit, lump sum bereavement benefits  and the like. We will not attempt a rigorous classification here, as we are not  fully conversant with the benefits payable in the U.K. today.

That part of the contribution which is used for short term benefits can safely be applied on a pay as you go basis to meet such benefits. But that part which is for the provision of long term benefits ought to be used to build up a fund, suitably invested, to ensure that the benefits can emerge without strain on the nation's resources.

When the NIS was first introduced, it seems that governments found it politically unattractive to pay a lesser age pension to people who would not have a lifetime of contributions to the new scheme. This problem should have been met by special subventions from the treasury for a limited period of years - maybe as many as 20 to 40 years, but not for ever. This was not done by the government of the day nor by successive governments of different political hues. As a result the NIF is now regarded as a pay as you go fund, a special kind of taxation by which money is transferred from the able to the needy.

Unfortunately, this has led to people thinking that "it has always been that way" and "that is the way it ought to be." Under a pay as you go fund, this year's benefits are paid out of this year's contributions. Consequently it is thought that this year's benefits (particularly retirement pensions) are paid by consent of the current contributors. Thus the community loses sight of the connection between past contributions and current benefits. Benefits are paid "by grace" rather than by right.

The Government Actuary apparently regards it as satisfactory that the current balance of the fund should not fall below one-sixth of the current annual outgo in benefits. We believe that this is actuarially unsound, though it may be politically necessary.

In his evidence before the Committee, Mr Daykin indicated his belief that at present contribution rates the fund would go on growing for a very long time.

"In principle the Fund will go on increasing. If nothing is done to adjust either the benefits or the contributions and the circumstances turn out to be something in line with what we are projecting within the range of our alternative assumptions then the Fund will grow quite large."

We would see this as not necessarily a bad thing It could even enable a properly invested fund to be built up pending the years when the ratio of elderly pensioners to people of working age will increase to unprecedented levels.

PRESENT UK ARRANGEMENTS

The present arrangements for age pensioners in the U.K. appear to be a mixture of benefits which have been earned due to contributions and benefits which are means tested. With a current level of pension of œ67.50 and an income support level of œ75 there is a small amount of weekly income which is means tested to ensure that the supplementary benefit is narrowly targeted. There is perhaps a hint of the direction of government thinking in the speech made by Mr Rooker during the debate on the annual uprating order. He said: "As I said at Social Security Question Time, the only people who will get the 75p will be those who receive only £66.75." We have been assured by several people that the Minister expressed himself badly, and did not intend that the 75 pence would be means tested. Perhaps it was a Freudian slip, and the  government really does expect to reduce the amount of benefit paid "as of  right" in favour of means tested additional benefits.

In our view, based on the Australian experience, this would be a backward step. 

National Insurance Schemes are best based on the contributory principle.

CONCLUSION

In the considered opinion of this Association, the Contributory Principle should be preserved, but governments should have no right of intervention in the operation of the scheme. (Sir) Norman Fowler MP when Secretary of State for Social Services in 1983 established the fundamentals in a Green Paper - but failed to implement them:

o in return for contributions, benefits would be given as of right

o all insured people, rich or poor, would pay the same contributions for the same security

o the basic national insurance pension must remain as an entitlement earned by people from paying national insurance contributions. That has been at the heart of our national insurance system since its inception and the Government is committed to it.

These are wise words that all governments, of whatever political colour, should heed.