The economy: The missing guest at Gordon’s party

Date: 24/01/04

Why productivity growth has slowed in Britain while rising in America

GORDON BROWN, the chancellor of the exchequer, is throwing a star-studded party in London on January 26th. The exciting theme is “advancing enterprise”. Everyone who is anyone, from Bill Gates, founder of Microsoft, to Lord Browne, chief executive of BP, will be there; Alan Greenspan, the world's top central banker, will join in via a video link.

While Mr Brown looks to Europe for ideas on how to create a fairer society he turns to America for tips on how to build a stronger economy. The dream is to enjoy American living standards - a third higher than in Britain - with European social values. Most of that gap in prosperity comes from America's higher productivity. And unlike European countries whose productivity also exceeds Britain's, America's higher labour efficiency has not come at the expense of fewer jobs and hours worked. Since Britain has caught up with European living standards by working harder, the European economic model holds few attractions for the chancellor.

So Mr Brown has borrowed from America - land of competition, enterprise and innovation - in his policies to galvanise the supply side of the economy. He has taken steps to ginger up competition, introducing criminal sanctions for businessmen trying to rig markets through cartels. He has striven to promote enterprise by helping small businesses. And he has sought to encourage more innovation through a tax credit for businesses undertaking research and development.

Some of these policies have been introduced only recently, so they still need time to prove themselves. Even so, nearly seven years after Mr Brown became chancellor, the government's record on productivity is disappointing. Output per worker has risen by 2.1% a year since 1960. But since Labour took office in spring 1997, it has increased by only 1.7% a year; over the last 12 months it rose by 1.5%.

The record is all the more disappointing given the remarkable spurt in American productivity growth. Britain had been slowly catching up with America, but starting in the mid-1990s American productivity growth accelerated as businesses used information and communications technology (ICT) to become more efficient and innovative. And during the recent economic downturn, America's productivity growth continued to speed up, while Britain's slowed still further.

Those inclined to see a glass half-full say that the British slowdown may precede a leap forward. America was ahead of the game in investing in ICT, and the introduction of information technology can initially depress productivity growth since it often means disrupting organisations. But Ben Broadbent, an economist at Goldman Sachs, says: “It's taking an awful long time to come through and the longer it takes the more you have to doubt that it's just around the corner.”

Investment in ICT is in any case already contributing to British productivity growth, unlike in other big European countries. According to Dirk Pilat of the OECD, services that use ICT intensively raised their contribution to overall labour productivity growth from 0.4% a year in the early 1990s to 0.9% a year in the period from 1996 to 2001. However, this was more than offset by a decline in the contribution from sectors that do not use ICT heavily.

In a report on the British economy published on January 20th, the OECD suggests that a deficiency in skills may be the villain of the piece: almost a quarter of the adult population lacks basic literacy skills, more than double the proportion in Germany. A third of 25-34-year-olds - a much larger share than in any other big rich economy - have few or no formal qualifications beyond compulsory education. Yet Britain's skills gap is longstanding, so it is difficult to see why it should now be depressing productivity growth. If anything, says Mary O'Mahony of the National Institute of Economic and Social Research, education is boosting productivity growth as young workers with more years of education replace older less educated ones.

A more likely culprit is the Labour government itself. Despite Mr Brown's pro-productivity policies, the government has wound business up in more and more red tape. This is a worry because regulations can restrict the changes in working practices needed to reap the full potential of new technology. Digby Jones, director-general of the Confederation of British Industry, complains about an avalanche of new employment regulations and says that in financial services, a vital sector of the economy, “we are fast becoming seriously over-regulated.”

Most important, the government is shifting resources on a large scale into the public sector, yet output has not risen commensurately. In the past year, spending on the public services rose by 10.2% in cash terms but this has bought only a 1.7% increase in output. The government says that the figures are failing to pick up a rise in quality; for example, falling class sizes count as a decline in productivity. But in its report, the OECD finds “limited evidence of improvement in service outcomes beyond the trend already seen in the early 1990s” in both education and health. It advises the government to slow down public spending growth in order to avoid “locking in inefficiencies”.

The durability of the pick-up in American productivity growth still offers hope that Britain may eventually follow suit. But that would be despite rather than because of Mr Brown. The chancellor is part of the problem rather than the solution. Cocktail parties for the business world's A-list won't change that.

Feature looks at the state of the UK economy.

• Primary Source

http://www.oecd.org/dataoecd/50/27/24746410.pdf http://www.oecd.org/dataoecd/50/27/24746410.pdf

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