Superb article which you all MUST read (AS & A2):

This hits all the buttons on its topic, which means you have really good context, and bang up to date material to use across a range of questions. You should probably all email Allister Heath and say thank you...

Britain’s productivity crisis: beware all the usual simplistic solutions

Too few economists seem prepared to accept that at least some of the UK’s productivity shortfall was a good thing

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Improving and enhancing the UK's infrastructure ought to be good for productivity, but only if done in the right way Photo: Bloomberg

By Allister Heath

9:37PM BST 21 Apr 2015

81 Comments

We keep being told, with some justification, that Britain’s greatest economic weakness is its poor productivity. The average worker doesn’t produce enough output for every hour that they work; given that our pay is directly connected to the marketable value of the output we generate, this helps to explain why wage growth has been sluggish over the past few years.

The numbers certainly make grim reading. The latest release from the Office for National Statistics reveals that output per hour fell by 0.2pc in the fourth quarter of 2014 compared with the previous quarter. For last year taken as a whole, labour productivity remained at roughly the same level as it was in 2013; depressingly, this was slightly below the level seen in 2007, prior to the recession and financial crisis.

Research by the Conference Board for the Financial Times showed a similar pattern. Total factor productivity – which includes not just the contribution of workers but also of capital and management – fell by 0.1pc in 2014, by 0.4pc in 2013 and by 1.5pc in 2012. This was the first time since 1992 that the UK has suffered three consecutive annual falls on this measure. The situation is almost as bad in France and Germany, which registered a much bigger drop of 0.6pc and 0.3pc last year but which have done better than the UK since 2010. 

I agree, as a general point, with the view that the UK’s productivity growth has been far too weak. But there is one big caveat that is too rarely made. Too few economists seem prepared to accept that at least some of the UK’s productivity shortfall was a good thing. It happened because a large number of low productivity workers found work in the UK, dragging down the average. Similar workers have not been able to get jobs in other countries.

To see why this matters, consider the following thought experiment: imagine two countries with identical economic characteristics and where the bottom 10pc of workers contribute 5pc of output. In the first country, a new law is passed banning them from working. They all lose their jobs, GDP drops by 5pc – but productivity shoots up by 5.5pc. Now imagine that all these workers move to the second country and immediately find work. That economy’s GDP goes up by 5pc, but because the number of workers rises even faster, average productivity falls by 4.5pc.

What country would you prefer to live in? The one being cheered by economists for its buoyant productivity and high-wage model, or the one with booming employment, where migrants, the young and labour market outsiders all find work? I would plump for the second without a second’s hesitation. I’m exaggerating, of course, but the UK has behaved a lot like the second kind of country in recent years, and countries like France or Italy like the first kind.

I’m not for a second claiming that we don’t have also have a genuine and extremely large productivity problem, merely that it has been exaggerated by the astonishing private sector jobs miracle of the past few years.

It is vital, as the election campaign enters its final weeks, that the politicians’ proposed solutions tackle the real issues. For a start, anything that reduces the labour market flexibility that has created so many jobs should be resisted. It is also time for a proper investigation into the role of in-work benefits: do they push down wages in a meaningful way, and are therefore a subsidy to firms, or do they subsidise people who otherwise wouldn’t work (because what they could earn is too low to sustain them)? If the second, as I suspect, what supply-side solutions could be used to make sure that they are able to earn more and require fewer subsidies? Clearly, these will need to involve dramatically improved vocational training and, for the long-term good of the economy, much better education.

Improving and enhancing the UK’s infrastructure ought to be good for productivity, but only if done in the right way. Building useless government-financed projects with costs greater than their benefits isn’t the answer, which is why I’m sceptical of those who blame cuts to the Government’s capital expenditure budget since the crisis for the slowdown in output per worker. The UK government has been short-termist for decades now, privileging current expenditure over capital spending, which is a good reason why as many important decisions as possible need to be depoliticised; but some of the figures that are often cited as proof of this exaggerate the trend by failing to control for the impact of the privatisation of industry, utilities and housing.

Some government capital projects that have been cancelled since the crisis would have boosted productivity; many merely represent a form of disguised consumption. The HS2 high-speed rail project would be a waste of money. By contrast, allowing the private sector to expand London’s airport capacity would add a vast amount of value.

The UK has a problem with mobility: it takes too long to travel. Pricing road use properly, rather than hitting motorists randomly through fuel duties and other taxes, makes sense – but it would be a terrible error merely to seek to suppress demand, rather than trying to bolster capacity. The UK must tap into the private sector’s appetite for financing long-term infrastructure projects.

^{HS2 high-speed rail project}

Infrastructure spending should not be seen to be synonymous with government spending, and especially not with the variety focused on buying votes in marginal constituencies. Like in the 19th and early 20th century, we need to unleash the forces of entrepreneurship and competition on all kinds of capital projects, from transport to energy.

Insurers need to match long-term liabilities with predictable, long-term cash flows; contrary to the received wisdom, this allows them to think in a longer-term way than politicians and to finance multi-decade capital projects.

Excessive regulations are also a major barrier to productivity. Vast amounts of time and resources are diverted to economically useless activities. Perhaps the single most pernicious regulations in the UK today are those surrounding land use: they have pushed up property prices by at least a quarter, imposing huge costs on families and companies.

Last but not least, the public sector itself needs to embrace technology to improve its own efficiency. Britain faces a massive productivity challenge, for all of the caveats I mentioned at the start of this article. But governments of all stripes must ensure they make the problem better, rather than worse.

allister.heath@telegraph.co.uk

One for the Business students

A film following a young woman who started a new food business in London:

Encouraging inward investment - or not!

Another piece from the Daily Telegraph; this one outlines how, because it is hard to cut spending, governments can create a climate where they drive away the very businesses that create the income streams from which tax revenue is drawn:

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Both Switzerland and California are more competitive than the UK. If they can be damaged, and if businesses start to leave as they start beating up on companies, then the impact here will be far worse.

Switzerland is the fourth richest country in the world, measured by per capita GDP Photo: Alamy

By Matthew Lynn

6:15PM BST 20 Apr 2015

42 Comments

What are the most competitive, successful economies in the world? You could make a case for Singapore, and increasingly for Dubai. But measured over the long-term, they would probably be Switzerland and California. Nowhere else really comes close, whether measured by income per head, or the vibrancy of their companies and entrepreneurs.
 

And yet, both have been flirting with anti-business populism. In Switzerland, a series of referendums have sought to limit executive pay, and to restrict immigration. California, along with New York, has been pushing up taxes to finance more generous state spending. There are signs already that is having an impact – and not in a good way. The numbers of companies moving to Switzerland is starting to fall sharply. Workers are leaving California for lower-tax states.
 

There is a worrying lesson for the UK. Both Switzerland and California are more competitive than we are. If they can be damaged, and if businesses start to leave as they start beating up on companies, then the impact here will be far worse. We may imagine that when it comes to the crunch, companies will stay here – but the evidence suggests that is a very foolish assumption. The reality is, business is more mobile than ever, and it won’t stay where it isn’t wanted.
 

The wealth of both California and Switzerland has been evident for years. Switzerland, with its formidable banking industry, and its depth of engineering, pharmaceuticals and consumer goods giants, is the fourth richest country in the world, measured by per capita GDP. The three above it are either tax havens or oil states. California, with its Silicon Valley tech powerhouses, and its massive entertainment and software industries, is an economic power all by itself. With a GDP of $2.2 trillion, according to Bloomberg calculations, it has just overtaken Brazil to become the world’s seventh-largest economy. It has already overtaken Italy and may edge past France quite soon.
 

So these are not slouches. They are two of the most hyper-competitive economies in the world, home to companies and industries with deep roots, and with skills and infrastructure that very few can match.
 

And yet both have been succumbing to a popular politics that takes aim at business. In the past year or so, a series of referendums in Switzerland have directly targeted big corporations. In 2013, voters backed a proposal that would give shareholders a direct veto over compensation, and banned big payments to incoming and outgoing executives. Another vote proposed limiting the pay of the most senior executive in a company to 12 times the most junior person – that didn’t pass, but it got 35pc support. On a separate issue, last year the country voted in favour of strict quotas on immigration, including from the European Union – the Swiss are, of course, not members of the EU, but had allowed its members free access.

You can argue about the rights and wrong of any of those proposals. Maybe executive pay has got out of control. It is quite legitimate to believe that too much immigration undermines communities. What you can’t dispute is that big business is deeply opposed to both initiatives. Companies don’t want to cap the pay of their top people, and they want to hire the best workers from anywhere.


So what impact has that had on the Swiss economy? This week we found out. A report from the Conference of Cantonal Economic Directors found that the number of foreign firms setting up in Switzerland fell by 8pc last year, to its lowest level in a decade. The number of new jobs fell by 21pc. It is not just that firms are not coming – they are leaving as well. Yahoo! shifted its European HQ to Ireland. So have companies such as the security firm Tyco.

There may be other factors. The soaring Swiss franc has made the country cripplingly expensive. But then it has always been pricey – it is only since it started bashing businesses that businesses have started to stay away.

Something similar is happening to California. For all its digital prowess, it also levies some of the highest state taxes in the US. With personal income taxes of 12pc on top of federal taxes – while many states have none – it is the highest taxed state in the Union. It has been ramping up labour protection, environmental legislation and business taxes. Chief Executive magazine has voted it the worst place to do business in the US. One report calculated that it took two years to get all the permits necessary to open a restaurant in the state, compared with six to eight weeks in Texas.

The result? People are moving out. A recent report from the American Legislative Exchange Council found that the five highest-tax states, led by California, lost 4m workers over the past decade, while the five lowest increased their population by roughly the same amount. Toyota has just moved its North American headquarters from California to Texas. Overall, the number of businesses in California is dropping by 73,000 a year.

There is a clear message for this country. Our political class has been ramping up the anti-business rhetoric as the election campaign unfolds. Labour’s Ed Miliband can hardly get through a speech without denouncing predatory capitalists for one thing or another.

The Liberal Democrats are constantly wheeling out diversity and environmental initiatives. Ukip appears to have decided that big business is as much the enemy of ordinary people as the EU. Even the Tories, while in practice easing some regulation, and doing a good job on cutting corporate taxes, appear nervous of speaking up for enterprise.

That may be a costly mistake. The UK has plenty of competitive advantages. We have an enviable record in creating jobs, lots of start-up companies, a stable political and legal system, a world-beating finance industry and some manufacturers that can take on the world. We have some of the lowest corporate taxes. Inward investment continues to pour in, one reason for the economic recovery.
But if we think we are as fundamentally competitive as either Switzerland or California then we are kidding ourselves. We might tell ourselves that companies will stay in Britain because they have roots here, even if taxes go up a bit, and regulations get a bit tighter. It is too much hassle to move, runs the argument.

The Swiss and the Californians have told themselves the same thing, and found out the hard way that it isn’t true.