Buccaneering Britain

“The absence of productivity growth in the seven years since 2007 is unprecedented in the post-war period,” said the ONS after its figures showed yet another fall in productivity.

Whichever way you measure it, it’s rubbish.

It’s not only rubbish when compared to past performance, it’s pretty bad when compared to most of the other G7 economies. We closed the gap during the 1990s and 2000s only to see it open up again after the recession.

Chart via IFS

LSE’s Centre for Economic Performance published a pre-election briefing on productivity a couple of weeks ago. Among its conclusions:

UK GDP per hour is currently around 17% below the G7 average. This is due to low investment especially in infrastructure and innovation, poor management and weak intermediate skills.

This chart, taken from the CEP report, shows that, while R&D investment has risen in Germany, France and the US, it has been falling steadily in the UK over the past couple of decades.

Relative to the size of its economy,the UK’s R&D spending is now well below the EU average.

 

Chart via ONS

We British like to think of ourselves as a creative nation but according to Eurostat’s innovation index, which measures innovation in a number of areas, the UK is now a follower not a leader.

Not only that but its performance has lagged behind when compared to others in the follower group.

Growth performance of Ireland (1.0%), Belgium (0.9%) and the UK (0.5%) is well below that of the EU and their relative performance has worsened over time.

In other words, mid-table in the second division, in danger of sliding towards the relegation zone.

Does this mean that our scientists are unproductive too? Far from it. A BIS report in 2013 found that the UK research performs extremely well when compared with other countries.

While the UK represents 0.9% of global population, 3.2% of R&D expenditure, and 4.1% of researchers, it accounts for 9.5% of downloads, 11.6% of citations and 15.9% of the world’s most highly-cited articles (see Figure 1.1A).

In other words, despite being a small country that doesn’t spend much on R&D, the UK produces world-class research. As the report says:

The UK is a highly productive research nation.

The trouble is, not much of it finds its way into the development of things which might boost the rest of the country’s productivity. As Helen Miller of the IFS remarked:

There is also a weakness in the extent to which science is commercialised and translated into new products and services.

As Ethan Mollick said, innovation requires both innovators and suits. Good managers are crucial to innovative and knowledge intensive industries. Without a supporting business infrastructure, there is nowhere for good ideas to go.

Of course, R&D and innovation aren’t the only factor affecting productivity growth but when you look at it alongside the fall in training provision and general business investment you start to see a pattern.

Organisations have been doing less of the sort of things that improve productivity and this has been going on for some time.

Coincidence? Not according to Andrew Smithers. This is exactly what senior business executives have been rewarded for doing, he says:

A major cause of the decline in investment in recent years that has fed through more recently to falling productivity has been the change in the way senior executives are paid. The massive jump in their remuneration is largely due to the rise in incentive payments that are linked to short-term changes in profits and share prices. As such, management now has a much greater incentive than before to run companies in ways that will enhance these measures in the short term, even though the price is lower long-term investment.

Crucially, underinvestment enables companies to gain market share in the short term, as their consequent lower costs allow them to reduce their prices while maintaining the same margins and thus undercut their competitors.

In other words, if it’s bonuses based on the short-term share price you’re after, it actually pays to cut investment. If that screws the organisation in the long run, who cares, you’ll be long gone.

Because companies usually have long life spans, we might expect them to take a more considered approach. However, chief executives can rationally expect only to be in office for a few years. The change in incentives has therefore shifted the balance of decisions away from the longer-term interests of companies to the shorter-term interests of management. The result has been a sharp decline in investment, an increased drive for higher margins and a preference for adding labour rather than capital equipment in response to rising demand. These preferences naturally results in weak labour productivity.

Falling investment and its consequence, low productivity, suggests that management in the UK has become more short-termist. Given what we know about pay and reward, it’s likely that remuneration played at least some part in that. So far, there are few signs of any significant change.

Earlier this week, David Cameron described Britain as a buccaneering country. Buccaneers attacked when they saw rich pickings, grabbed as much as they could and then made a quick getaway. Maybe he’s right.