The Labour Treasury team is today criticising the fall in living standards under the government. That is the right focus. The outlook for living standards has to be a central part of any One Nation economic policy. There are challenges, however, as we look ahead.

The first place to go to when looking at living standards is the annual Institute for Fiscal Studies report on the subject. This year’s report brings the data up to 2011-12 and comments on 2012-13. In 2011-12, real median average household income was 5.8 per cent lower than in the year up to the general election (2009-10), and the mean average real income was 7.2 per cent lower. Average incomes rose slightly in the first two years of the recession. What happened was that wages were steady at first before falling (on average) while benefits and tax credits boosted incomes. In the following two years there was a reversal as wages fell and benefit cuts began to kick in, while inflation stopped falling and started rising (what measure you use for inflation is important – these figures use RPI). The IFS believes that, while there were further benefit and tax credit cuts in 2012-13, other factors probably mean there was little change. However, looking further out, into 2014-15, ‘there are good reasons to expect further falls in living standards’ with real wages falling and further benefit cuts.

The impact of the financial crisis on inequality is revealing. Inequality (as measured by income) fell significantly from the start of the recession and there was no change in the 2011-12. Between 2007-8 and 2011-12 income in the top decile fell almost six per cent in real terms while incomes in the bottom 10 per cent rose 1.4 per cent after inflation. The IFS notes that earnings inequality grew but benefits and tax credits compensated. It believes ‘The reduction in inequality as a result of the recession is likely to prove a temporary rather than permanent phenomenon.’ The tax and benefit system is unlikely to keep check with earnings as they rise into recovery.

If we think about the experience of the average person with a mortgage (voters Labour wishes to attract), the outlook appears brighter. Mortgage rates are at all-time lows. Many expect the inflation rate to fall, at least in the short term. While average earnings are still only growing around one per cent pa excluding bonuses, there are indications pay settlements are running at over two per cent. The increase in the personal allowance has also increased household income available for spending or saving after bills have been paid, while other costs (food, fuel) have not been rising at the rates seen in previous years. It is not surprising that there are reports increasing optimism about the economic outlook (though people remain pessimistic about the outlook for their own financial situation). That is seen as well in industry surveys, with July’s Purchasing Manager Indices just out pointing to accelerating GDP growth in the current quarter across manufacturing, construction, and services. Caveats remain: the recovery is still slight and vulnerable, and the eurozone retains its capacity to surprise. I have noted before for Progress that with the liquidity being pumped into the economy, a small increase in confidence can go a long way. That the signs of recovery we can see so far are in spite of the government’s policies rather than because of them does not change the fact that, for the moment at least, they are there.

Into this environment, Labour needs to talk about an economy in which, as Ed Miliband said in his conference speech last year, ‘everyone has a stake’ and ‘prosperity is fairly shared’. If recovery does come through, the risk is the economy will remain unbalanced and we will go back to pre-crisis ‘business as usual’. That’s why I believe Labour’s theme should be investment, both in people and to make sure our public services are not run down so only the very rich can benefit from first-class education and healthcare, for example. To secure that ground, we must combine optimism with a clear, unambiguous and convincing commitment to make all government spending much more effective than it is now.

This article was first published by Progress on 5 August 2013.