Winner of the New Statesman SPERI Prize in Political Economy 2016

Tuesday, 28 November 2017

Disentangling the UK productivity problem

As it has become clear to the non-FT/Economist media, and as it has been clear to economists for a long time, productivity growth is a far more important problem for the UK than the deficit. However I think discussion can get confused if it fails to distinguish between three aspects to the problem.

First, the UK is not alone in seeing large falls in productivity growth. Now some of that may be related to the global financial crisis, but not all of it is. As this chart taken from the excellent paper by Richard Jones shows, in the G7 productivity appears to have been declining since at least the 1980s.

For simplicity’s sake I will call that the global productivity decline.

The second element in the UK’s productivity performance is a structural weakness relative to other countries. I know of no better way of convincing you this exists than this chart, taken from the latest OECD survey of the UK economy.


The robots may be coming to take our jobs, but at this rate UK manufacturing will be the last place this will happen. As this report and the Jones paper also show, the UK’s R&D expenditure is weak and below the OECD average. Polly Toynbee shows it is no better on the workforce training side. [1] 

I am fairly sure, however, that what we have seen since the Global Financial crisis is an additional third weakness. Here is the annual growth in UK output per hour.


The historic trend, which showed no clear sign of following the global trend and declining after 1980 (a clear UK success), is around 2.25%. Now it is clearly possible to argue that this data shows a decline from this long run trend starting in the mid-2000s based on this aggregate data. If you factor in as well that these aggregate numbers are flattered by unsustainably fast productivity growth in financial services from 2001 to 2006 then you can maybe detect the beginning of a slowdown from the start of the millennium. This would not be surprising, as it would be very hard for the UK to buck the slowdown in global productivity for very long.

Having said all that, what happened after the Great Recession is something quite different. But it is wrong to view this period as just one of constant zero growth gloom. Productivity began to recover in 2010 and 2011, to levels that do not look too bad by international standards, but hit negative territory in the following two years. Another, this time more modest, two year recovery was followed by another collapse in 2016. This does not look like just the global productivity decline plus some additional structural weakness. Achieving negative productivity growth two years running indicates a deeper malaise.

This is why I think there is a third factor behind this terrible performance. To explain it we need to start thinking about productivity growth as not some kind of manna from heaven, churned out by our universities, or even the product of R&D by firms, but also as something akin to an investment. If you are confident of future growth and profitability, you are more likely to invest in productivity improvements (which may or may not involve physical investment) than if you are unusually uncertain or gloomy.

After recessions are over, productivity usually picks up. Firms understand the business cycle, and in UK business cycles over the last 40 odd years recessions are followed by strong growth. So when recessions have levelled out, it makes sense for firms to invest in productivity improvements. That is one reason why productivity growth resumed in 2010 and 2011. The only problem is that something quite unexpected happened. Growth did not return at all. At one stage people were talking about a second UK recession. Firms became both uncertain and gloomy, and productivity growth stopped. That shock, which we can reasonably call austerity, was the first shock that hit the economy after the GFC.

By 2013 it looked like the recovery had finally arrived. Productivity growth could resume, but maybe more cautiously than before. And that caution was justified because in the election of 2015 a new uncertainty arose: the possibility of Brexit. Brexit would be one of the most profound shocks to hit the UK for decades: certainly for firms involved in trading or international supply chains and probably wider than that. Just as the costs of waiting are small for a large investment decision when there is serious uncertainty, so Brexit meant that productivity improvements would once again be put on hold.

Thus we have three aspects to the UK’s productivity slowdown. The first is the global slowdown, which we managed to avoid for two decades but no longer. The second is a long term structural weakness in developing and applying new technology. The third is the impact of two shocks, austerity and Brexit, which has caused UK firms to put productivity improvements on hold and become very gloomy about the UK’s future. I somehow doubt that we can start doing something about the UK’s long term structural weaknesses while we continue to shoot ourselves in the foot with crazy policies like austerity or Brexit.

[1] If you think the budget made a significant difference to all this, read Anna Valero here       

9 comments:

  1. Do you think there is a case to argue that low productivity in the UK is linked to inequality and executive-labour wage disparities as detailed by the likes of Piketty, and also to the UK's shareholding model?
    Doesn't it stand to reason that the more money going into executives' pockets and dividends the less is invested in technology?
    How does UK productivity compare with countries with less inequality, smaller wage disparities and less focus on shareholder rewards?

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  2. What about hanging onto a declining market. It is known the eu share of the world economy is declining.

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  3. Is another factor to this the underemployment of several cohorts of young people leaving education/school ?

    Those leaving after the GFC have experienced higher levels of unemployment/underemployment translating to lower levels of experience/skills formation.

    Presumably this effect follows them through much of their life - which causes a generational productivity hit.

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  4. Please, please, the deficit is not a problem at all. It is mostly our savings.

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  5. Productivity in the 1970's is very interesting considering how many strikes where taking place! secondly the very moment these troubles ended productivity began to fall! slowly at first but as real wealth fell for the majority,money was produced not for investment in machinery but for investments ie housing and other asset bubbles share investments,but the means to pay this money creation back and the interest was neglected,Pay never grew proportionately to money creation ie £2 of £100 gdp is 2% wealth,£3 of £200 is 1.5% wealth the real wealth creators have been systematically destroyed,it is this disconnect that means we are in permanent stagnation/deflation because we do not have the productive means or incentives anymore
    http://www.coppolacomment.com/search?q=Irish+potato+famine this is not new,neoliberalism really is the emperor with no cloths on!

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  6. You may well be right here in your analysis but it is quite possible that the "Brexit" factor may disappear once the direction of travel becomes clearer, even if the final destination is unknown.

    What is far more concerning is the graph showing robots which speaks of a long term weakness in applying technology and this is indeed long term and stretches a long way back. Management weakness is a major factor in this story and one only has to look at the success of such as Nissan and Toyota to see that to blame the workers was never a credible explanation of our old woes.

    Paradoxically, it is this factor that may be our saviour as there is considerable "catch up" to do before we get to the position many other countries are in.

    There is also the question of skill levels and the suitability of education to the situation we are likely to face and this is yet another long term issue which must be tackled as part of implementing new technology.

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  7. Also is it coincidence that lower taxation also started at the same time productive started to fall,so lower taxes doesn't actually increase investment in real terms because of asset bubbles sucking the wealth out not in to the economy!

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  8. If you measure change in GVA per worker, then how do you know you're not measuring changes in the ability of firms in uncompetitive markets to capture more and more consumer surplus, rather than an actual change in the ability of labour to produce valuable output?

    Why do you think finance, energy and pharmaceuticals are the most "productive" sectors in the UK economy by an order of magnitude?

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  9. Why does South Korea have so many industrial robots? Might it be because of a labour shortage that isn't being met by migrant workers? Might such a labour shortage be a pre-requisite for investment in labour saving machines and the consequent productivity improvements? In the UK it might be cheaper and more flexible for firms to draw upon EU migrants than it is to invest in machines, training etc. Workers have far more bargaining power if expensive machinary is dependent on them. A workforce doing unskilled work by hand with no labour shortage has esentially no bargaining power. Why would a firm invest in machines in those circumstances? The UK "productivity conundrum" looks to have kicked off just when freedom of movement started between the UK and the Eastern European EU member states. If an economy moulds over to being based on making pre-prepared salads by hand on zero-hours contracts, isn't it to be expected that it won't be a productivity success?

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