Is the UK Productivity Puzzle a real problem or a mirage?

In many respects the UK economy advances on Easter in good shape. The upwards revision of year on year economic growth to 3% certainly provides some cheer to accompany the Easter Eggs. However under the surface there are issues which seem likely to haunt us the first of which accompanied the economic growth upgrade. It came with a more recent sugar-coating.

Exports of goods rose by 5.9% in Quarter 4 2014, due to an increase in manufactured goods, particularly material manufactures. Exports of services rose by 2.9% in Quarter 4 2014.

 

But even such welcome news did not allow us to escape this development.

In 2014, the UK’s current account deficit was £97.9 billion, up from a deficit of £76.7 billion in 2013. The deficit in 2014 equated to 5.5% of GDP at current market prices. This was the largest annual deficit as a percentage of GDP at current market prices since annual records began in 1948.

 

Let us hope that the latest figures are the beginnings of an improvement as we start from an appalling position and certainly need it! However it is not the only issue that provides a mine or two in the water for the UK economy and today my intention is to look at productivity which yesterday provided its own version.

UK Labour Productivity

The opening salvo was a disappointment as it had looked as if productivity was improving and so after upgrades to the UK’s quarterly and annual growth estimates one might reasonably have expected it to have improved too. On that line of logic the numbers were the equivalent of a cold shower.

UK labour productivity as measured by output per hour fell by 0.2% in the fourth quarter of 2014 compared with the previous quarter.

 

If we consider this the disturbing conclusion is that even in what is now a mature phase of the current expansion productivity is reported as falling. As  we  look  deeper we see that in fact it has improved little in the boom and barely since the credit crunch first hit us.

In 2014 as a whole, labour productivity was little changed
from 2013, and slightly lower than in 2007, prior to the economic downturn.

 

I must admit as well as being troubled by this I have my doubts about it. How exactly has the economy grown if we are now seeing no productivity gains and more recently a decline? Historically we are breaking new ground at least for most of our lifetimes.

These estimates show that the absence of productivity growth in the seven years since 2007 is unprecedented in the post-war period.

 

Let us clarify what is meant

The Labour productivity numbers are defined on an output per hour basis so to get the latest  reading we saw output rise by 0.6% but hours worked rose by 0.8%. On a worker or jobs basis productivity improved by 0.3%.

Why is it such a big deal?

The UK Economic Review for January sums it up in one sentence.

UK labour productivity rose by 0.6% in Q3 2014, the strongest rise seen since Q2 2011 (when productivity rose by 1.3%). This coincides with an increase in real wage growth.

 

Over the medium and long-term productivity and real wages are highly positively correlated. On that basis the apparent good news of the autumn of 2014 has now been replaced by bad news. It is a particular disappointment as the previous improvement was recorded as being broad-based.

The Bank of England could be wrong-footed yet again

This was a subject about which Bank of England Governor Mark Carney was particularly bullish at February’s Inflation Report.

The combination of rising wages and falling energy and food prices will help household finances and boost the growth of real take home pay this year to its fastest rate in a decade.

 

we expect the strongest real income growth in over
a decade actually

 

I think the thing that we have seen in recent months is the
start of the turn of wages, and consistent with the change in
slack in the labour market.

 

Does he do a karaoke version of this from Yazz?

Now we may not known
Where our next meal is coming from

The only way is up, baby

For you and me, baby
The only way is up
For you and me

The link between this and productivity growth was queried and the Governor passed this particular hand grenade to Ben Broadbent to answer.

We have it (productivity) improving, but we have that rate of growth only just getting back, by the end of the forecast, to the average of the pre-crisis growth rates. So yes, it’s faster than we’ve seen in the three or four years since the crisis and therefore earnings growth is also faster.

 

So the “improving” apparently includes a 0.2% drop in the last quarter of 2014 and flatlining for the year as a whole! Still as I have pointed out many times on this website the Bank of England is wrong much more often than it is right.

The problem that is measuring services

There is a clear issue with the largest sector of our economy which is the service sector. We simply do not measure it accurately enough and therefore this puts doubt on all the derivatives of the recorded performance one of which is labour productivity. The CityUK Independent Economists Group put it thus.

The UK is particularly competitive in services trade; it has the second-largest services trade surplus and the second-highest level of services exports in the G8, after the US. UK services exports accounting for 7% of world service exports.

 

So we are very good at something but simultaneously are struggling in terms of productivity. The official data for the last quarter of 2014 backed this up as our services exports rose by 2.9% further boosting an already highly positive area and yet productivity growth is supposedly poor. Surely we should be losing and not gaining market share after such a poor effort?!

Comment

The second Bank of England Quarterly Bulletin of 2014 told us this.

Despite some modest improvements in 2013, whole-economy output per hour remains around 16% below
the level implied by its pre-crisis trend.

 

In spite of that weasel phrase “pre-crisis trend” -when will official bodies realise how otiose that phrase now is?-  it posed a question that many have struggled to answer. Also it would appear that even backroom economists at the Bank of England are not good at predicting the future!

Indeed, these are good reasons to be optimistic about the outlook for UK productivity growth.

 

Mind you they may have felt pressure to repeat the views of Governor Carney who is establishing something of a track record of being wrong. From Christmas 2013.

The fundamentals are promising. Given the flexibility of its labour market, the continued openness of the economy and the credibility of macro policy, it is hard to think of any reason why there should have been a persistent deterioration in the rate of potential growth in Britain.

 

Actually whilst the recorded data says no to Governor Carney I do have some sympathy with his first two points as long as we can skip the hype of “the credibility of macro policy” after all back then wasn’t he promising to raise Base Rates if the unemployment rate fell below 7%? That unemployment rate is now 5.7% and the Base Rate rise never took place although like the boy who cried wolf Mark Carney continues to promise it.

The performance of the UK services-sector simply does not fit with the reported troubles in productivity. It is time for us to have a long hard look at the way we record the data as we may find that some is missing. As our export/import data in this area is of a shocking quality we may find that our current account balance improves too. Surely for example, all those people in Tech City in the Islington area many of whom have come from abroad to take part in the innovation must be doing something? I suspect that it is our ability to measure their output which is the problem. Our services sector still has inflation and no doubt wage rises but we record it dreadfully. I hope our current fears will not be another version of the 1967 devaluation of the UK Pound £ which on much later revisions was discovered to be unnecessary!

 

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17 thoughts on “Is the UK Productivity Puzzle a real problem or a mirage?

  1. “The UK is particularly competitive in services trade”

    It never ceases to amaze me how wonderful we are at things which cannot be measured.

    • Hi therrawbuzzin

      As the world develops and more work,output and trade goes in its direction we need to up our game. Some of it is not easy as one would prefer to count Jaguars rather than something that may be in the virtual world. However the brains which create such things should be easily capable of measuring what is produced and sold. They must know their own sales etc….

  2. ” I suspect that it is our ability to measure their output which is the problem.”

    HAH! Shaun , I suspect its they make up the data as we go along, thats the trouble

    imputed Unicorn poop and Pixie dust !

    With so much data made up and finger in the air ( or is that bottom ?? ) I’m surprised anything can be forecast at all , the numbers would be all wrong ……. oh hang on …………

    Still no doubt the better / worse weather this bank holiday weekend will improve/worsen the trade deficit …..

    I held off Dilbert but really we do have a load of Wallys in th BoE and OBR ….

    http://dilbert.com/

    More art than Science ?

    Dick from the internet – priceless !

    Forbin ,

    Ps: I’d posit that the alterations have put in a bias of +3% to GDP so -3 from the figure ….

    PPs : Can you see why your going wrong , Shaun ? 😉

    Telling the truth is a revolutionary act , you know …..

    • Hi Forbin

      I know that I would be in jail in Venezuela! (For those who are unaware calculating inflation numbers there is illegal.)

      As to our numbers well there was an admission or two in the data.

      “The Real Estate industry also stands out because its contributions to total services output per hour have been positive every year since 1998. However, Real Estate productivity is affected by the National Accounts concept of output from owner-occupied housing, which adds to the numerator but without a corresponding component in the denominator. As such, users should approach productivity estimates for the real estate industry with some caution.”

      As that has been a fast growing area in recent times the mind boggles at that bit!

  3. In regards to measuring services, we should be able to accurately count services that included VAT, but recording all those services invoiced offshore is fraught with difficulties

    • Hi ExpatInBG

      We should be able to count services which include VAT but the UK has seen quite a bit of fraud in this area. BDO LLP estimated in 2013 that it was costing some £3.3 billion a year and it is an area that needs looking into as HMRC has been leaden-footed in other areas too. I think it is an area where the European Union should have a joined-up policy and yet BDO suggests this.

      “This is also an EU wide problem and with the 27 member states having a combined VAT gap of €100bn (Ben Terra, Professor of Law at Amsterdam and Lund Universities) the EU is potentially losing around €33bn due to VAT fraud in this wider market.”

      It is worrying..

      • I once tried working for the civil service, and they did jubbing – making the new trainees go on trips to the local cafe. Seemed promotion was based on having friends, regardless of competence or whether you bothered to do any work at all. It wasn’t my cup of tea.

        That was NZ, and my outside impression of UK bureaucracy is that they are less efficient/competent. Certainly the disfunctional SORN laws show the DVLA as an organisation only interested in protecting union members jobs

        Question is how to impose competent reform on the likes of Sir Humphrey Appleby …

  4. How do we measure productivity in companies that create digital products, eg. Codemasters. I think of this company as a manufacturer of computer games that are sold worldwide, but are their sales figures counted in our export numbers or our manufacturing numbers?

    • Hi Sally C and welcome to the comments section

      There are problems across the services sector as this from the UK ONS indicates.

      “However, in 2013 the challenge of appropriately measuring the service sector remains particularly given the proliferation of non-standard methods across different products in the service sector, and a renewed focus has been accepted as a strategic priority for UK National Accounts.”

      “the challenges in measuring services are ongoing and are far from solved in a practical sense.”

      That represents the ordinary service sector so I suspect that the more high-tech avenues are beyond hope….

      To answer your question the manufacturing output should be counted where the games are made. The decision then is on the value of the services such as design,ownership and innovation. With the I-Pad the US took the credit for the majority in spite of virtually none of it being made there. Even worse if the stuff is shipped here and then out as the Rotterdam Effect then applies and trade soars!

      Here is an example of the line of thought.

      http://usa.chinadaily.com.cn/business/2012-01/31/content_14509243.htm

    • Years ago Operations Management people in manufacturing defined Productivity as the product of Efficiency and Utilisation. Simply defined Efficiency is Output divided by Hours Worked; and Utilisation is Hours Worked divided by Hours Available. So Productivity is Output divided by Hours Available. In capital intensive industries Utilisation could be a major issue. You can’t spend £££millions on expensive plant and machinery and have it lying around idle.

      These days economists tend to define Productivity as the ratio of Productive Output over Productive Inputs (such things as raw materials, workers’ hours, energy) and it is therefore almost entirely concerned with efficiency and ignores utilisation. – Which is one reason why zero-hours contracts are so popular; productivity looks good because it (only) measures output per hours worked. Someone could be 100% efficient during the 3 hours they worked this month! The other 37 hours are totally ignored.

      Hope that helps.

    • surely even if they can’t be broken down they all roll up into our trade surplus / deficit and as it’s a whacking great deficit together they don’t amount to much compared to the wall of imported tat.

    • Likewise, I (in the UK) write the firmware for servers manufactured in China and sold all over the world by an American company. To further muddy the waters we have some outsourced engineering in India and a team in America. Try measuring that output!

  5. Nowadays it’s not often I learn a new word. Today is not that day. Otiose – thanks.

    I’m sceptical about services because it includes financial services and as we know these involve lying about making a profit, getting your bonus and getting out before it becomes a loss.

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