Fill the productivity gap and the growth will follow

Our economy is running below a sustainable level in the long-term. We need a stronger service sector if it is to recover to something like full health

Share

What is the UK’s sustainable long-term growth rate and has it changed for the worse? It is a question for the entire developed world but it’s a particularly important one for us since we are wrestling with the largest public-sector deficit, relative to GDP, of any large Western economy. If growth remains achingly slow, the burden of that debt becomes all the harder to tackle.

For the past century, the underlying growth rate of the UK has been around 2.25 per cent a year, a rate of course affected by wars and recessions but evening out over the years. Growth has been driven mostly by increasing productivity and participation in the labour force but also by steady rises in population. So improvements in living standards have been somewhat slower than growth in the total economy.

Nevertheless, we have not had to face, at least until recently, the possibility that there will be no overall rise in living standards for the next generation, something that seems to have happened in the US. Indeed, in the middle 2000s the Treasury wondered whether there had been a long-run upward shift in Britain’s growth potential, with the underlying rate more like 2.75 per cent.

At the time it seemed plausible, for we seemed to be managing that sort of growth without too serious inflationary pressures, but it’s now accepted that the growth rates achieved then were not sustainable. Private demand was artificially inflated by excessive personal borrowing and public demand by continuing annual budget deficits.

The economy is now still well below its previous peak in output although employment is almost back to its peak. (In GDP terms, this recovery has been much worse than that of the 1980s and 1990s but it has been much better in employment terms.) That would suggest there has been a sharp fall in output per person, in productivity. There probably has been some decline simply because much of the rise in employment has been in part-time work. But maybe these employees were not producing so much as was thought when the economy was at its peak.

All this leads into a debate about the real level of productivity and the output gap – the amount by which the economy is below its productive potential. Can the ground that we have lost as a result of recession be recovered, or is that wealth that has been lost for ever?

If you look at all this in cyclical terms, my guess is that the economy was running somewhat above its long-term sustainable level between 2003 and 2007, and is now running quite a bit below. So we can expect to recover some of the losses. This could take a very long time but things do eventually revert to a mean.

But what about the structural issue: has something radical changed? The argument is that it has proved easier to increase productivity in manufacturing than in services, but, for a number of reasons, the former is likely to employ fewer people – compare a highly automated car factory with the complex staffing needs of a large general hospital. So the key, in the future, will be to find ways of getting much higher productivity in service industries.

It is too big an issue to do more than sketch it, but I think that while there will be some services where you really cannot do much about productivity – care for the elderly, for example – there are many others that we have only begun to think about increasing and improving output and using fewer people to do so, including public administration. That will be the key to maintaining the underlying growth rate.

***

We need skills, not just funds

What is really holding back investment in the UK? Money or confidence? The background to the new Vince Cable business bank is that there is a funding gap for small and medium-sized businesses. So £1bn of new government money is to be put behind this – which sounds a lot until you consider that the Government itself is borrowing that amount every two-and-a-half days.

This plan does, however, come on top of the existing Funding for Lending scheme set up in August, whereby the Bank of England will supply up to £60bn in cheap money to banks for them to lend to consumers and companies.

The difficulty is knowing to what extent the lack of investment is the result of a shortage of access to loans. The company sector is sitting on £750bn of cash. So what is happening? GE Capital – the financial arm of General Electric – has identified some gaps in access to funding, because mid-sized companies did not have the same access to capital markets as the giants. There was also a lack of confidence. But its biggest worry was people: how could companies find and retain skilled workers? If we have skill shortages at this stage of the cycle, what happens when eventually the economy does begin to hum?

h.mcrae@independent.co.uk

React Now

iJobs Job Widget
iJobs General

Apprentice IT Technician

£150.00 per week: QA Apprenticeships: This company is a company that specializ...

1st Line Technical Service Desk Analyst IT Apprentice

£153.75 per week: QA Apprenticeships: This company is an innovative outsourcin...

1st Line Helpdesk Engineer Apprentice

£150.00 per week: QA Apprenticeships: This company has been providing on site ...

Sales Associate Apprentice

£150.00 per week: QA Apprenticeships: We've been supplying best of breed peopl...

Day In a Page

Read Next
 

Don't trust those who say that Britain is ‘broken’ – time usually proves them wrong

Stefano Hatfield
 

Human rights need not come before development

Marta Foresti
How I brokered a peace deal with Robert Mugabe: Roy Agyemang reveals the delicate diplomacy needed to get Zimbabwe’s President to sit down with the BBC

How I brokered a peace deal with Robert Mugabe

Roy Agyemang reveals the delicate diplomacy needed to get Zimbabwe’s President to sit down with the BBC
Video of British Muslims dancing to Pharrell Williams's hit Happy attacked as 'sinful'

British Muslims's Happy video attacked as 'sinful'

The four-minute clip by Honesty Policy has had more than 300,000 hits on YouTube
Church of England-raised Michael Williams describes the unexpected joys in learning about his family's Jewish faith

Michael Williams: Do as I do, not as I pray

Church of England-raised Williams describes the unexpected joys in learning about his family's Jewish faith
A History of the First World War in 100 moments: A visit to the Front Line by the Prime Minister's wife

A History of the First World War in 100 moments

A visit to the Front Line by the Prime Minister's wife
Comedian Jenny Collier: 'Sexism I experienced on stand-up circuit should be extinct'

Jenny Collier: 'Sexism on stand-up circuit should be extinct'

The comedian's appearance at a show on the eve of International Women's Day was cancelled because they had "too many women" on the bill
Cannes Film Festival: Ken Loach and Mike Leigh to fight it out for the Palme d'Or

Cannes Film Festival

Ken Loach and Mike Leigh to fight it out for the Palme d'Or
The concept album makes surprise top ten return with neolithic opus from Jethro Tull's Ian Anderson

The concept album makes surprise top ten return

Neolithic opus from Jethro Tull's Ian Anderson is unexpected success
Lichen is the surprise new ingredient on fine-dining menus, thanks to our love of Scandinavian and Indian cuisines

Lichen is surprise new ingredient on fine-dining menus

Emily Jupp discovers how it can give a unique, smoky flavour to our cooking
10 best baking books

10 best baking books

Planning a spot of baking this bank holiday weekend? From old favourites to new releases, here’s ten cookbooks for you
Jury still out on Manchester City boss Manuel Pellegrini

Jury still out on Pellegrini

Draw with Sunderland raises questions over Manchester City manager's ability to motivate and unify his players
Ben Stokes: 'Punching lockers isn't way forward'

Ben Stokes: 'Punching lockers isn't way forward'

The all-rounder has been hailed as future star after Ashes debut but incident in Caribbean added to doubts about discipline. Jon Culley meets a man looking to control his emotions
Mark Johnston: First £1 million jackpot spurs him on

Mark Johnston: First £1 million jackpot spurs him on

The most prize money ever at an All-Weather race day is up for grabs at Lingfield on Friday, and the record-breaking trainer tells Jon Freeman how times have changed
Ricky Gervais: 'People are waiting for me to fail. If you think it's awful, then just don't watch it'

Ricky Gervais: 'People are waiting for me to fail'

As the second series of his divisive sitcom 'Derek' hits screens, the comedian tells James Rampton why he'll never bow to the critics who habitually circle his work
Mad Men series 7, TV review: The suits are still sharp, but Don Draper has lost his edge

Mad Men returns for a final fling

The suits are still sharp, but Don Draper has lost his edge
Google finds a lift into space will never get off the ground as there is no material strong enough for a cable from Earth into orbit

Google finds a lift into space will never get off the ground

Technology giant’s scientists say there is no material strong enough for a cable from Earth into orbit