In the last few years, it would have been hard to avoid the media’s coverage of the “productivity puzzle” as the UK experienced sustained periods of low labour productivity growth following the economic crisis of 2008.
Since the crisis, the UK has been experiencing lagging levels of productivity, with growth flatlining at 0.2 per cent a year, compared to the long-term average of 2.4 per cent from 1970 to 2007. In addition, Britain continues to experience the largest gap between pre- and post-crash productivity levels of any G7 country. However, a decade after the crash, the UK has been slowly eking out gains quarter on quarter.
But, today, the ONS has released its most recent quarterly productivity report. It notes that output per hour slowed to 0.2 per cent in the third quarter of 2018 from 1.6 per cent in the second quarter, its weakest growth rate since the third quarter of 2016. Meanwhile, unit labour costs picked up to an annual rate of 2.8 per cent from 2.1 per cent, the biggest rise since the first three months of 2017.
This news is concerning reading, as productivity reflects a general level of health in the economy. Higher levels of productivity are reflected by higher wages, lower unit costs, and overall economic growth. Having struggled with low levels of productivity and wage growth for over a decade, the UK must now look to implementing policies that focus on growth.
One way to increase productivity is to increase human capital levels through skills attainment. This has been lauded as a cure to the productivity puzzle for as long as the puzzle has been around to be solved.
As the labour market changes and automation plays an increasingly large role in the global economy, the skills necessary to drive productivity are those that will help the entire workforce adapt to the technological changes of the 21st century; engineering, robotics, mathematics, and technical skills will ensure that workers can continue to contribute to the labour market and therefore won’t be phased out as automation continues to expand.
But more than the mighty task of creating a perfectly skilled populace, there are certain conditions that can foster productivity. In many ways, a liberal economy with a flexible labour market, lower regulations, and competitive and free markets are the prime conditions for increasing productivity.
All too often, regulations result in undue stress on the labour market, resulting in inefficiencies and curtailed growth. The apprenticeship levy, for example, creates an administrative burden for companies wishing to hire apprentices, as well as a huge financial drain by forcing companies to pay into a system that they cannot navigate and through which they are not guaranteed a positive return. In the end, schemes such as this actually cause a squeeze on companies and result in lower levels of apprenticeship, taking away critical opportunities to increase human capital.
In a labour market where increased skills could mean the difference between stagnation and growth, regulations such as the apprenticeship levy cause much more harm than good.
Other regulations, like restrictive housing policies that make it more difficult for people to relocate to areas of the country that are most productive, and tight policies surrounding flexible work and the gig economy only hamper burgeoning growth. Regulations that create barriers to productivity gains ought to be removed in order to encourage active participation in certain productive sectors.
In addition, stronger market competition can lead to productivity gains through several mechanisms. First, competition within firms applies pressure at the leadership and management level leading to more efficiency. And as most anyone in the working world can attest – the quality of manager can have a huge impact on employee productivity.
Secondly, market competition will result in productive firms taking a larger market share at the expense of the less productive. If less productive firms are pushed out of the market, they might then be replaced by marginally more productive players, resulting in a net gain to productivity.
Finally, competition ensures that companies are constantly innovating. Innovation is one of the key driving forces behind productivity – if not the most important force. As firms need to eke out an advantage in a competitive market, they turn to innovative technologies that allow employees to perform better, faster, and stronger; competition drives innovation, which increases efficiency and fuels productivity gains.
Despite today’s figures, there remains much to look forward to in terms of increasing productivity and all that it brings. But, in order to make these gains, Britain needs a liberal environment that makes it easier to improve skills, removes burdensome regulations, encourages healthy competition, and fosters innovation. If we embrace this opportunity, the puzzle may yet be solved.