Productivity – the number one economic issue missing from the British election campaign

The UK economy is more sleepy than happy. N Azlin Sha / Shutterstock.com

The economy is taking centre stage in the UK election, with the main parties spending most of their time arguing over the speed and extent of cuts – and which party would be more “fiscally responsible”.

But the fundamental (and of course related) issue that has received less airtime is that of growth. Given poor growth since the financial crisis, this should be an area of focus for any party claiming that management of the economy is a priority.

In 2014, GDP per capita was nearly 16% lower in 2014 than we would expect from pre-2008 trends, representing the worst recession and slowest recovery for a century. This is represented on the graph below, which shows the trend of GDP per capita growth and how austerity has hurt it in reality:

UK GDP per capita (log series) 1970Q1- 2014Q3. Anna Valero and John van Reenen | Data: ONS

GDP per capita depends on the employment rate and labour productivity. While employment performance has been strong since the crisis and is now back to pre-crisis levels, this is largely due to a fall in real wages which has priced workers into jobs (wages are still 8-10% below pre-crisis levels).

Productivity collapsed in 2008 and has failed to recover. Today, output per hour stands at 15% below the level we would have achieved based on pre-crisis trends, and at around 30% below the US, France and Germany. This dire performance since the crisis has widened our long-standing gap with these countries.

The number one issue

From an economic perspective, productivity is the number one issue that needs addressing. The focus on short-term demand issues instead of long-term supply issues is one of the major problems with UK policy in general and this has been thrown into sharp relief this election.

Productivity was not mentioned by the chancellor in his 2015 budget, and is mentioned just once in the Conservative manifesto. Of course, lots of policies affect growth – for example skills, infrastructure, business policy, and tax – all of which have been discussed.

But what is missing is an emphasis on an overarching, long-term framework for tackling the UK’s growth issues. While Labour and the Liberal Democrats say more on the topic, they are still focusing the economic debate more on balancing the budget when reaching out to voters.

Perverse focus

This seems perverse for a number of reasons. GDP growth, underpinned by growing productivity, is essential for a robust recovery and long-run prosperity. Growth is clearly also an essential ingredient for reducing the deficit.

The major parties’ rhetoric takes Office for Budget Responsibility (OBR) growth forecasts as given. IMF forecasts, however, are less optimistic than the OBR, and predict that the UK will still be in deficit in 2020 (in contrast to the surplus forecast by the Conservatives based upon their plan).

Fiscal consolidation itself affects growth. The OBR estimated that 2% of GDP was lost due to austerity policies between 2010 and 2012 and this is likely a major under-estimate because much recent research suggests much larger “multipliers” in severe downturns, when interest rates are near zero. The 40% cuts in public investment in the first half of this parliament helped the economy stumble. And arguments that the UK would end up like Greece or that early austerity would inspire what Paul Krugman calls the “confidence fairy” have been comprehensively debunked.

Why low productivity is probably the greatest challenge facing the UK economy.

Why growth is not discussed

The reasons why growth has been largely ignored are mainly political. The effects of policies to raise productivity require investment, take many years and are hard to measure. Spending cuts are easier to point to as a “quick win”.

The Conservatives fear that mentioning productivity undermines their narrative of the UK as an unmitigated success story. It is an implicit admission that the economy is not as strong as they have claimed.

Labour, meanwhile, has failed to defend its pre-crisis performance, which our research has shown to be good in many respects. This has allowed the “mess left by Labour” idea to become conventional wisdom.

Their policy to balance the structural deficit by the end of the next parliament means that they would be able to borrow so long as it was only to invest. They are also committed to cut real spending in non-protected departments each year. This actually goes beyond what they need to do to keep to the plan of current budget balancing and a falling net debt to GDP ratio. The fact they have to do this shows their defensiveness.

Labour have also released “A Better Plan for Business”, which contains a number of policies aimed at raising productivity. This has a dedicated section in the manifesto, but has not been emphasised compared to their fiscal plans.

The Liberal Democrats’ manifesto also contains a large section on growth and productivity. Like Labour, they aim to allow borrowing for public investment. Unlike Labour they aim to achieve this earlier (by 2017-18).

With productivity largely being ignored by the main parties, voters are not seeing what they would do to raise it and may not have a clear picture of who would best run the economy. Moreover, there is a real risk that not enough would be done by whichever government is formed after May 7. Without adequate investment in our future, not only may we miss fiscal targets, but we may fall even further behind our international peers on living standards too.