The Productivity Puzzle: An inequality of sectors

London underground
By Michelle Perry, CA magazine

22 August 2018

Over the past few decades, the UK has moved from a significant manufacturer of products to a more service-based economy, and it appears to be linked with weak productivity.

This structural change not only impacts productivity but also makes it arguably harder to measure. Howard Archer, Chief Economic Adviser, EY ITEM Club, said: “The Office for National Statistics highlighted the changing composition in the UK economy as a reason in its latest update.

“Since 2008 more jobs have been created in less productive areas, such as catering, and there’s been a move away from more productive industries like mining.”

A new report, Productivity in the UK’s low-wage industries, was published in April by the National Institute of Economic and Social Research (NIESR) for the Joseph Rowntree Foundation.

The study finds that, though the UK performs relatively strongly in some low-wage sectors such as retail and clothing manufacture, in others its productivity performance is relatively weak. This suggests that the UK “productivity problem” is large in these sectors when compared to similar industries in France, Germany and the US.

The impact of income

NIESR’s analysis shows that, in aggregate, UK performance lags 20-30% below that of Germany, France, the Netherlands and the US. Among the 10 comparator countries considered, only Italy’s low-wage sector has levels of value-added per hour below that of the UK.

According to the research, raising productivity in the UK’s low-wage sectors to the levels of these other nations would close between a fifth and a quarter of our national productivity gap.

NIESR Fellow John Forth, who co-authored the report with NIESR’s Principal Economist Ana Rincon-Aznar, wrote: “Increasing levels of skill and rates of capital investment in low-wage sectors can play a part in closing the UK’s relative productivity gap with other countries.

The UK’s productivity problem is not only restricted to low-wage sectors.

"However, the UK’s weakness in these sectors lies at least as much in how skills and technologies are put to use, and so close attention must also be given to management practices and the organisation of work.”

NIESR also finds that the UK’s productivity problem is not only restricted to low-wage sectors with the UK’s comparative position being, on average, slightly worse among higher-wage industries.

The dominance of the financial services sector, which accounts for three-quarters of the UK economy and is predominantly focused in London and the South East, is another critical factor.

Tej Parikh, Senior Economist at the Institute of Directors, said: “The driving factor in all of this is the financial services industry, which has accounted for a stronger proportion of GDP than in most other developed countries.

Tepid new business growth, reduced confidence and an increased squeeze on margins maintains concern about the outlook. - Tej Parikh

“It’s a major employer and when that slowed down we got uncertainty, and a build-up of regulation in that sector led to a productivity fall. If you get one sector that’s weaker, and it is a substantial sector, then there’s a big impact.”

Future prospects for financial services are not upbeat either. The latest update from the EY ITEM Club stated: “The purchasing managers’ survey indicates that activity in the dominant services sector reached a three-month high in May but tepid new business growth, reduced confidence and an increased squeeze on margins maintains concern about the outlook.”

Regional imbalances

The performance of all of the UK’s regions is also crucial to solving the UK’s productivity puzzle. For far too long the productivity of many UK regions has lagged behind that of London and the South East, creating an increasingly unsustainable imbalance.

The Government’s industrial strategy is a positive sign that ministers grasp the problem and have a plan. However, the potential fruits of these measures won’t be seen for many years - if they come to fruition at all.

“There are a number of potential causes [for regional imbalance],” said Yael Selfin, Chief Economist with KPMG. “One would be the sectoral mix in each region, and then skills and infrastructure. One of the key things is improving transport within regions so people can move between jobs more easily.”

Weak broadband has had a huge impact on productivity and the digital divide between rural and urban areas of the UK.

Although transport is vital - as we have seen recently with the train network meltdown and the difficulties employees have experienced in commuting to work - there are other infrastructure factors such as better internet and mobile phone coverage.

Weak broadband has had a huge impact on productivity and the digital divide between rural and urban areas of the UK has been substantial. The Government acknowledged this years ago, and in 2013 the Department for Digital, Culture, Media & Sport (DCMS) committed £1.7bn to roll out superfast broadband.

In January the Government hailed its superfast broadband project as a success - bringing 24Mbps to 95% of the country, almost on target and to budget. According to the DCMS, 19 out of 20 premises across the UK now have access, boosting speeds and closing the digital divide.

However, although 95% of the country can get access to superfast broadband, it doesn’t translate that they have upgraded due to premium pricing and other issues. There is still variation in speeds across the country, meaning the Government’s work here is not done.

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