The sharp slowdown we’ve seen in productivity since 2008 has been a puzzle for some time now. As part of the UK Commission’s work on improving our understanding of the puzzle, we have – together with our partners LLAKES – focused our new series of masterclasses on productivity questions. Our first UKCES/LLAKES Productivity Masterclass was given on 29 September 2015 by the distinguished economist Dr Martin Weale, currently serving as a member of the Bank of England’s Monetary Policy Committee. Here’s an overview of the themes Martin talked about, and their implications for the future.
The productivity puzzle is that after persistent growth over many decades, UK productivity fell slightly in recession and has been essentially stagnant since then. The UK is far from alone here: looking across the advanced economies which make up the membership of the OECD, and comparing post-recession (2010-2014) and pre-recession (2000-2007) growth, all but three countries have seen a significant slowdown.
But the UK’s slowdown is particularly marked, having seen fairly robust growth before the recession and stagnation since then. Some of this may be down to data: it’s likely that when the ONS revise and improve the economic data, our slowdown will look more like that seen in other countries; but like them, we’ll still have seen a disappointing slowdown in productivity growth, and we still need to understand why.
Taking account of the different background factors – for example, pre-recession productivity growth, the size of the financial sector, or openness to international trade – one finding stands out consistently: the damage done in the recession itself offers the best clue to productivity growth since then. Those countries which suffered the worst recessions following the financial crisis have typically seen the worst productivity slowdowns after those recessions have ended.
The path to slower productivity growth also seems to have come through a common route. Overall, most advanced economies have seen continued investment and improvement in workforce skills. The slowdown has come through ‘Total Factor Productivity’ (TFP) – that element of productivity growth which can’t be explained by having more equipment or better skills, which reflects our ability to turn those inputs into valuable goods and services people will want to buy.
In the UK’s case, this TFP growth seems to have not only slowed down, but reversed slightly. That brings us to the question of what might be going on to explain these problems. A range of causes have been speculated about over the past few years, but many of them have been found wanting.
For example, there was speculation that problems in the financial sector may have led to a misallocation of capital, so that it was invested in the wrong businesses or the wrong industries. But that would have led to rising profitability and catch-up investment in undercapitalised industries since then; a pattern which we haven’t seen. Equally, explanations concerned with employers cutting investment in research and development, or shifting out of capital and into labour to take advantage of lower wages have also not found support in the data.
An important part of the explanation may be in the very different TFP experience between the US and other countries. While the US has also seen some setbacks in productivity, it has extended its TFP advantage over other advanced economies. That advantage seems to reflect a greater willingness to make the necessary up-front investments – not only in capital, but in skills and organisation – to implement and reap the rewards of the latest technologies.
While it may have worsened since the recession, the UK has long trailed the US in this respect. And in the same way, that fact may also explain the persistence of the substantial productivity gap we see when comparing the UK with the US, a gap that has become a permanent feature over the past century. Some research suggests that across the advanced economies – even in the US – a number of trends have impeded the implementation of new technologies, explaining the cross-country nature of the slowdown.
There are signs that these trends may be unwinding to an extent. But even that aside, the substantial gap between the UK and the US offers the potential for catch-up, but this depends on changing the pace of implementing the latest technologies. While the UK has made significant progress in getting the ‘inputs’ of productivity right, with gains for example in education levels, there are important differences in our industries and workplaces which we’re only beginning to understand. Getting to grips with the way that some industries – for example, the automotive industry – have seen a dramatic change in their productivity performance is an important part of this process. So too is understanding how best to combine skills with technology in the workplace, to ensure that employees can contribute fully to productivity.
Find out more about the joint UKCES and LLAKES Masterclass series, and sign up for upcoming sessions, on our website. You can also watch all of our previous Masterclass sessions in full on our Youtube channel, and follow @UKCES on Twitter for the latest details on upcoming sessions using the hashtag #UKCESMasterclass.
Read our previous Masterclass blogs: