One in three can’t afford to benefit from Government’s regressive new investment scheme

Is now really the time to prioritise a scheme aimed at helping those with savings to further increase their value?More details of the new Government savings scheme, championed by Minister for Finance Simon Harris, were announced this week. Photograph: Bryan O’Brien Some more details of the new Government savings scheme, championed by Minister for Finance Simon Harris, were announced this week. The rationale for the scheme is that Irish households hold a higher proportion of their financial assets in cash compared with our European counterparts and invest in capital markets at almost 70 per cent below the EU average. When evaluating policy interventions to change behaviour, two main considerations are whether the policy will be effective and whether there will be distributional effects. However, in the current economic climate, when the cost of living is the main concern of half the population, the question also arises as to whether now is really the time to prioritise a savings scheme aimed at helping those who already have savings to further increase their value?There are many possible explanations as to why Irish households are reluctant to invest in products such as stocks or funds. The higher rate of cash deposits in Ireland could simply be due to stronger preferences for liquidity (easy, immediate access to savings) or a lower risk appetite. Higher levels of risk aversion in Ireland could be explained by the fact that we experienced one of the worst recessions in the wake of the 2008 global financial crisis, when many households were left in financial distress because of so-called “safe” investments they made in bank shares or property. Behavioural biases can play a role in financial decision-making and could also partly explain our low rates of investing. Status-quo bias (a tendency to stick with the default option or first choice) can lead to inaction so that unspent money just accumulates, remaining in current accounts. This bias may be driven by loss aversion, whereby people fear potential losses more than they value equivalent gains. Savings in a bank account up to €100,000 are protected by the deposit guarantee scheme; conversely, investments are inherently risky and the fear of lost value tends to be greater than the draw of potential gains. Ambiguity aversion can also play a role in cash accumulation. Where people might dislike well-defined risks, they tend to be more averse to ambiguous risks. The risk and loss of value on cash holdings over time due to inflation is more predictable than the risk and potential losses when investing in stocks or shares. The probabilities associated with possible outcomes in capital markets are not easily quantified. A lack of information or expertise can increase ambiguity aversion, biasing consumer choices towards the certain option of holding cash.Historically, investing money in a diversified portfolio (where investments are spread over a variety of assets) earns annual returns exceeding inflation over the long run. There are therefore good reasons to try to debias financial choices and incentivise households to participate in capital markets. A savings scheme offering tax breaks on returns changes incentives, so although investment risks remain, higher potential gains increase the likelihood of investment. It is difficult to fully evaluate how effective the proposed Irish scheme will be given many critical details won’t be announced until budget day. READ MOREHowever, we know some elements of the design. Returns on investments up to a certain as-yet-unspecified threshold will be tax free, with a flat percentage fee paid annually on funds above this tax-free limit. One aspect of this design that will impact effectiveness is that taxes will be paid on the value of the account minus the tax-free threshold. In comparison to alternative investment options where only gains are taxed, losses on investments in the savings scheme for accounts valued above the threshold will be compounded by flat-rate taxes. Loss-averse individuals may therefore invest only amounts well below the threshold. [ New Government investment scheme: Here’s what we know – and don’t knowOpens in new window ]Regardless of the threshold chosen or the flat rate levied, there will be distributional effects. Recent research from Banking and Payments Federation Ireland found that of the 53 per cent of Irish adults who don’t hold any investments, 61 per cent had not invested because they did not have enough money or couldn’t afford to do so. This means that almost one in three can’t afford to benefit from the scheme. The intervention is therefore regressive in nature, not of any benefit to the least well off and of most potential benefit to those with the most funds to invest.Budget 2027 is shaping up to be a reverse Robin Hood. While poorer households may not literally have money taken from them to give to the rich, all budget choices come with trade-offsConsidering households without savings are the most exposed to the cost-of-living crisis, Government time and resources could be put to better use designing schemes that support vulnerable households without further fuelling inflation. While prices in Ireland increased 24 per cent over the past five years, recent Central Statistics Office data shows that average weekly earnings also increased by almost 24 per cent, in line with consumer price index inflation. These average figures suggest there is not a universal cost-of-living crisis but hide an unequal underlying distribution. Some, for example the average worker in the financial sector, have seen pay increases above inflation while others, such as those working in retail, are worse off because high inflation has more than eroded their pay increases. The fact that a record 14 per cent of domestic electricity customers were in arrears in April illustrates that while many are better off, a significant minority are struggling to make ends meet.[ We now know some details about Ireland’s new investment scheme - but questions remainOpens in new window ]Government cost-of-living measures in recent years such as the energy credits and fuel excise cuts have been universal in nature. Targeted measures would more effectively protect those most in need of support at a much lower cost to the public purse. Moreover, while universal measures are popular, they provide only temporary relief at the expense of higher inflation in the long run. In its pre-budget statement, the Irish Fiscal Advisory Council warned that if government spending continues to increase by 9 per cent annually to 2030, average households will face an additional €1,000 in annual costs as a direct result.While universal supports in response to the post-pandemic inflation and energy shock in 2022 were justified given the need for immediate action, more than four years later the Government has yet to design schemes to target low- and middle-income households. Instead, Government priorities in this budget seem focused on helping wealthier households. In addition to the new savings scheme, inheritance tax reductions that will benefit only the minority of wealthier households who receive the largest inheritances also appear to be on the budget agenda. Budget 2027 is shaping up to be a reverse Robin Hood. While poorer households may not literally have money taken from them to give to the rich, all budget choices come with trade-offs. Prioritising those who are doing well reduces the available resources to help those in most need. Come October 6th there will no doubt be some merry men, but those currently struggling to make ends meet won’t be among them.Emma Howard is senior lecturer in economics at Technological University Dublin. David McWilliams returns next weekIN THIS SECTION