The Productivity Challenge

Posted on August 4, 2015 · Posted in AB Public

Productivity was a central concern of the summer Budget. The big rise in minimum wage – to be renamed the national living wage – assumes employers will invest in skills, equipment and R&D to increase productivity and so generate the higher revenues that can be converted into higher wages. At present the UK lags on productivity behind major international competitors, including the United States, Germany, France and Italy.

Alongside the Budget, the Government published ‘Fixing the Foundations’, its blueprint for raising productivity. This focused on two ‘pillars’: the first being long-term investment; the second, a dynamic economy.

To increase investment, a lower tax environment – particularly in Corporation Tax – is one driver. Another is to improve the savings environment to provide the finance to invest. Key investments will raise skills levels, improve transportation and the digital infrastructure and create a lower cost energy market. The economy is to be made more dynamic through planning reforms that increase housing provision and by raising pay, removing barriers to work, developing the financial services market and by promoting stronger market competition, deregulation and more exporting. Another requirement is a rebalanced economy, led by greater devolution to cities and regions, in particular through the Northern Powerhouse.

“In my view HM Treasury’s ‘Fixing the Foundations’ report is a positive move by the Government to set out clearly its plans for making an economic step change,” says Gillian Fawcett, ACCA’s head of public sector. “It has many positives, e.g. ensuring local authorities use their local powers to build much needed homes, speeding-up building on brownfield sites, further devolution, skills investment and £13bn investment on transport to get the regions moving. However, in the case of the latter it still smacks of a lack of a comprehensive transport strategy for the country. Also, the plan is absolutely silent on how to regenerate the North East of England – beyond Sheffield! Therefore, in my view it fails the test of setting out a holistic strategy for stimulating growth and productivity for England and all of its regions.”

The issue of regional development is a central concern because the UK will have a single national living wage despite the enormous regional diversity in productive output. The English North East, Wales and Northern Ireland lag far behind the South East. Another challenge is how to maintain the recent success in job creation while pay rates go up.

John Hawksworth, PwC’s chief economist, explains: “The UK economy has been an exceptional job-creating machine over the past three years, but productivity growth has lagged behind. The reasons for this are complex, but the government is right to identify this as a priority and its plan contains many sensible policies in areas such as relaxing planning restrictions to allow more new homes to be built.

“There is also a question of whether the financial numbers match the rhetoric on infrastructure investment. The Budget showed total public sector net investment flat at 1.4% of GDP for the next five years, a relatively modest level by historic standards. The government’s proposed new fiscal rule will also no longer allow borrowing to fund net investment, in contrast to the existing fiscal mandate.

“With gilt yields still close to record lows, this would be an ideal time to launch an ambitious new plan in which increased public sector investment, and appropriate use of government guarantees, could lever-in private sector investment to produce a step change in housing and transport infrastructure development. The government could be bolder in this area.”

The other big concern is whether enough is being done to ensure the UK has sufficient skills to improve productivity. This is especially true given the tougher line being taken with migrant workers – shutting-off that route for employers to gain skills.

Ben Willmott, head of public policy at the Chartered Institute of Personnel and Development, claims the Government’s plan only “scratches the surface” of solving the UK’s productivity problem. He is calling for a “fundamental review” of how the skills system operates. “Investment in training and development are clearly linked to better performing and more productive workplaces,” he says. “The challenge is to help small businesses in particular raise their game in this respect.”

Higher productivity is not merely desirable – without it the Chancellor’s figures do not add up. According to the Office for Budget Responsibility (OBR), public sector net debt will rise to 86.6% of GDP by 2019/20 with weak productivity, but will fall to 56.7% of GDP with high productivity.

Mark Gregory, EY’s chief economist, explains: “The OBR’s forecasts show the gamble implicit in the Chancellor’s Budget. With a fiscal squeeze – albeit slower than forecast in March – no expectations of a boost from trade, and a slowdown in consumer spending growth as welfare cuts bite, the Chancellor needs productivity to accelerate to drive growth.”

It is clear – our economic health depends on improved productivity.