Britain’s productivity crisis is real – here are the six reasons why we have done so badly

 
Allister Heath
THERE is one, overriding reason why so few economists have a clue about what is happening to the British economy. If the official statistics are to be believed, output – measured by GDP – is falling, while employment is increasing. It is the implications of this unusual combination that have baffled so many economists.

As a result of less being produced by more people, the UK’s productivity – or output per worker – is roughly 3.8 per cent lower than it was 4 years ago, a dramatic and very unusual decline, according to official numbers.

Had productivity continued to grow at the annual rate of 2.2 per cent recorded from 1997 to 2007, it would be 12.9 per cent higher than it is today. But while those who would still be in work under this scenario would have been much better off, and wouldn’t have suffered the real wage cuts most have undergone in recent years, this would have been a disaster for jobs: the present GDP levels, allied to boom time productivity growth, would have caused an extra 3.6m people to be out of work, leaving unemployment at over 6m rather than 2.6m. We narrowly avoided disaster, confounding many forecasters.

That is one of the many intriguing findings from an excellent paper out today from Douglas McWilliams, the chief executive of the Centre for Economics and Business Research. He identifies six explanations for why measured productivity has fallen since the first quarter of 2008.

For a start, output has been understated by statisticians in recent quarters: the economy is doing badly, but not as badly as the official figures would suggest. This has artificially reduced productivity by about 2 per cent compared to what it would otherwise be. Another factor is that oil and gas output – which accounts for a lot of GDP but only a small number of workers – has fallen substantially in recent years, cutting average productivity by about 1 per cent. The Jubilee resulted in one fewer working day, which also hit output, cutting productivity by 0.5 per cent.

There have also been some greater forces at play. Full time workers, on average, now work fewer hours, not always out of choice, and there has been an increased proportion of part time workers; no wonder the average worker produces less. This explains another 2 per cent off productivity, according to the CEBR. In some sectors, productivity is a function of demand since it is difficult to adjust manning levels quickly – and demand has been lower than expected, chopping around 3 per cent from productivity. This is the single most important factor, according to McWilliams’ research.

Perhaps most interesting of all, measured productivity growth in the latter years of the bubble was misleadingly upbeat. In financial services, in particular, it reflected “value” that eventually turned out to be negative, overwhelmed by losses, provisions and write-offs. UK productivity over the period from 1991 (the last full year before sterling was booted out of the European Exchange Rate Mechanism, allowing the UK to start growing again) to 2007 (when the bubble started to burst) rose 45.2 per cent. This period, while it lasted, felt to many as if the UK had entered a new, golden economic era – but despite that, many commentators were worried that productivity wasn’t rising fast enough.

In reality, however, output per UK worker was growing at an unsustainable rate. Britain’s increase was suspiciously stronger than the 25.9 per cent, 23.8 per cent and 18.8 per cent seen in Germany, France and Italy, and easily beat the 25.6 per cent, 33.8 per cent and 18.1 per cent for Canada, the US and Japan. Some of this was genuine – Britain started off from a low base, had better supply-side policies before these were eroded by Gordon Brown and much of the increase in productivity, even in finance, was sustainable. But not all of it was reflective of reality, and since then the City has been hammered.

Output per job in finance surged 63.8 per cent between 1997 and its peak in late 2009, before collapsing by 8.2 per cent. The collapse would have been even greater had City-style employment not slumped 30 per cent. The number of M&As is down 60 per cent (as are bonuses) and stock market turnover is down 48 per cent.

The bursting of the City’s bubble is responsible for cutting measured output per worker by 2.8 per cent; these six factors together explain all but 2 per cent of the total shortfall. Britain is suffering from a slump in productivity – but the reasons may not be as much of a mystery as mainstream economists had led us to believe.

allister.heath@cityam.com
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