Why Britain’s productivity disaster is costing workers dear

Allister Heath
ONE of the most important trends of recent years has been the appalling performance of UK productivity, otherwise known as output per worker. This matters hugely: over time, the only way that wages can go up is if workers become more productive, either because they become more skilled or work harder or smarter, or if new capital expenditure and technologies enable them to produce more. Ever since the industrial revolution, productivity growth has been taken for granted – the fact that it has ground to a halt in the UK is worrying. It is the main reason why wages are growing so slowly in cash terms, and continue to increase by less than inflation, leading to an inevitable reduction in real incomes and living standards.

Productivity growth has averaged an abysmal annual -0.8 per cent since the recession began, two to three per cent less than the norm after previous recessions, Capital Economics calculates. Nobody really understands why this is happening. One possibility is that the figures are wrong, and that the economy and hence output per worker are not doing as badly as the official numbers suggest. Given the record of our statisticians, this is a definite possibility. Unless the stats are unfathomably wrong, however, productivity would still be unusually low.

Another partial explanation is that the collapse in output in financial services – ultra-leveraged banks allowed workers to produce an unsustainably high amount of revenues per capita during the bubble – has dragged down overall productivity.

The massive size of the low-productivity public sector is another reason – output growth per worker in the state sector inevitably under-performs that of the private sector, dragging down UK-wide averages. But this may not be true just at the moment: the public sector has already shrunk by hundreds of thousands of employees over the past two years, yet output has risen slightly. So while the ludicrously bloated size of the state relative to the private sector is a major problem, it cannot explain the poor productivity growth of the past year or so. That said, the state feeds on tax, and produces lots of regulations – and clearly these are reducing the economy’s efficiency. But this is a long-term issue that suggests sluggish growth for years to come, and doesn’t explain the performance of the past 2-3 years.

The main statistical reason for the drop in productivity is that employment fell far less during this downturn than during the recessions of the early 1980s and early 1990s – but output fell by more. The total number of hours worked has also dropped by less than in the past recessions. So what is going on? One explanation is that employers and employees would rather share out the work between more staff and pay them less, in real terms; this would keep productivity low. But it is not clear why this would be the case. Another explanation is that a lot of output we thought existed during the bubble was actually mere froth. When it vanished, we suddenly all realised that we were poorer than we thought – and now, slowly but surely, the purchasing power of wages is falling as we adjust to our new, straitened circumstances.

If the IMF is right and Eurozone banks will deleverage to the tune of trillions by the end of 2013 – getting rid of seven per cent of their assets – then we are in real trouble. Fewer bank assets mean reduced liabilities – and that means a collapse in the supply of money. A further recession would be guaranteed, with a nasty impact on UK exports. The Eurozone crisis is here to stay.

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