‘Productivity is not everything. But in the long run, it is almost everything,” wrote the Nobel Prize-winning economist Paul Krugman. It is productivity which provides the basis for long-term, sustainable growth and, most importantly, for improvements in living standards. As Andrew Haldane, the Bank of England’s chief economist, puts it: “A household’s income depends largely on wages and those wages depend, in turn, on the productivity of the company at which households work.”
The government and headline figures of GDP growth tell us that we have experienced a recovery, but the average family isn’t feeling it. We can put a lot of that down to the productivity gap. So, what can policymakers and businesses do to help boost productivity and wages?
The average British worker produces 30 per cent less per week than the average worker in France, Germany or the United States, and our productivity still hasn’t recovered from the 2008 crash. This is a key part of the reason that the average British household hasn’t experienced an increase in disposable income in more than a decade.
Weak growth also means people are increasingly borrowing to plug the gap. Our living standards rest on unsustainable private household debt. Our household debt to income ratio now stands at a staggering 142 per cent.
Yet productivity isn’t lagging for all Britain’s firms. Instead, we are seeing a growing gulf between a minority of highly successful, highly productive companies making gains year on year, and a majority of firms, falling back and suffering from lack of finance, an inability to integrate new technologies into their business and inadequate infrastructure.
The productivity gap strikingly maps onto Britain’s regional inequalities, with a huge concentration of the most productive firms in London and the South East. If we are to address our country’s deep regional inequalities, increasing productivity will be key.
Alarmingly, the problems holding Britain back from productivity gains date back decades. Small-and-medium enterprises struggle to access the finance they need to invest in new technologies – a problem that was identified as long ago as 1931. We have lagged behind France and Germany in infrastructure investment through the entire post-war period. And Britain has never succeeded in creating a world-class system of technical education.
To begin to address the productivity puzzle, we must understand it as the outcome of multiple, deep structural problems. How can we begin to address these?
Part of the answer is about ambition – we must ask how we can reform our institutions for long-term, strategic decision-making on infrastructure projects. The creation of the National Infrastructure Commission, headed by Andrew Adonis, is a start.
We need to ensure that infrastructure investments with long-term benefits, that will ultimately pay for themselves, receive the funding they need. Borrowing to invest is a sensible proposition that makes economic sense. Rather than hurriedly selling off the Green Investment Bank, couldn’t the government have thought about how to build on that successful model, perhaps with a National Infrastructure Bank?
To provide access to finance for our SMEs, we need to consider the role of the state. Can we further empower the British Business Bank started by the coalition? The Sparkassen network of local banks in Germany is one model we can look to for inspiration – perhaps also embracing the mutual model of banking that has historically been a key part of the UK’s financial sector. Alongside this, we must explore how to create more competition in private sector banking, so that individuals and small businesses get a better service and a better deal.
Productivity gains alone, however, are not enough. We face new challenges going forward as well as old ones. Some people forecast that sweeping technological change will bring with it great leaps forward in productivity. Alongside this, however, they predict soaring unemployment as machines take over more and more of the jobs people used to do. We need to think about how technological advances can create productivity gains that support fulfilling, well-paid work, not replace it.
That means we need to think about how to improve productivity in the low-productivity, service-based parts of the economy – the everyday economy – which employs the majority of workers in Britain. This means thinking about the integration of technology into these workplaces, and making sure sectors like care and retail are considered as much a part of any industrial strategy as the advanced manufacturing industries of the future. Management is also central: as the LSE’s John van Reenen has shown, small improvements in management practice can cause major productivity gains. We might consider, for instance, the idea of creating catapult centres for management, as well as technology transfer. And we should think about infrastructure as more than roads and bridges. As the CBI has argued, social infrastructure like childcare is also essential to improving our productivity performance.
The challenges are immense, as are the distractions. But whatever the terms of any deal, post-Brexit prosperity will depend on our ability to get to grips with problems that predate our entry into the European Economic Community and will exist after we leave the EU. Britain is a world leader in so many sectors but, as the statistics show, we need more high-productivity, well-paid jobs to improve living standards and to seize the opportunities that technology and change can bring.
Rachel Reeves is former shadow work and pensions secretary and Labour MP for Leeds West