The UK productivity crisis meets real wage growth

As we advance on the UK labour market data let us first note some good news. This is that the procedure for an “early wire” to be given to the UK establishment has been stopped. To be specific a list of people were in the past given the data some 24 hours before the rest of us, and as the ship of state is a somewhat leaky vessel there were obvious concerns that some traders would be more equal than others.

Moving back to today’s data the background to it was set by this official release from last week.

Productivity – as measured by our main measure, output per hour – fell by 0.5% in Quarter 1 (Jan to Mar) 2017.

As this is a factor in wage growth we have a potential driver of the dip in wage growth we have seen in 2017 but the problematic news did not stop there.

A fall of 0.5% takes productivity Quarter 1 2017 back below the peak achieved in Quarter 4 (Oct to Dec) 2007, which was broadly matched in Quarter 4 2016. Productivity is now 0.4% below the pre-downturn peak and 0.4% below the post-downturn peak.

The productivity problem

This is an example of what Winston Churchill meant when he said that Russia was a riddle wrapped in a mystery inside an enigma. The same type of thinking applies to productivity especially when it is described like this.

Productivity in Quarter 1 2017, as measured by output per hour, stood 16.8% below its pre-downturn trend – or, equivalently, productivity would have been 20.2% higher had it followed this pre-downturn trend

In my opinion looking at it like that merely tells us that the world has changed and that the productivity boat we were previously on sailed elsewhere. There is little point regarding it as a gap we can regain and I find it fascinating that those who seem to think we can get it back are supporters of policies like QE which have supported the zombie banks and companies which are a factor in this.

More significant to me is this from the June 2016 Economic Review.

Productivity is estimated to have grown at a compound average growth rate of 0.1% per quarter during the recovery between 2009 and 2014. This near-flat productivity growth is a phenomenon unprecedented in the UK since the Second World War.

We can update that because if we look at the expansion since the middle of 2013 we see that output per hour has risen from 98.1 then to 99.6 at the end of the first quarter. So a bit better than flat but not by much. This compares to past episodes.

This is in contrast with patterns following previous UK economic downturns where productivity initially fell, but subsequently bounced back to the previous trend rate of growth.

If we look back to the June 2016 Economic Review we can put a number on that.

However, at the same stages of both the 1990s and 1980s recoveries, productivity was more than 16% above the respective pre-downturn levels.

It is worse than that now as productivity three years or so later is where we thought it was then as whilst it has grown since the past was worse than we thought. What we can now clearly see is that yet another type of lost decade has been in play.

Moving to my explanation if we move on from the drop caused by the credit crunch and look at the more recent period I have written before that there are real problems in measuring productivity in the service industries. Not only are they pretty much 80% of our economy but they have been in essence our economic growth. Productivity in haircuts or operations for surgeons? Maybe in some cases but in others no.

The latest numbers seem to be picking this up.

Labour productivity fell in services but rose in the manufacturing industries; services productivity fell by 0.6% on the previous quarter, while manufacturing productivity grew by 0.2% on the previous quarter.

Employment

This is the good news side of the issue. What I mean by that is that the number of people who are employed continues to grow.

For March to May 2017, there were 32.01 million people in work, 175,000 more than for December 2016 to February 2017 and 324,000 more than for a year earlier.

Which brings more associated good news.

For the latest time period, March to May 2017, the employment rate for people was 74.9%, the highest since comparable records began in 1971.

My argument would be that the employment is mostly in the service sector where we struggle to measure productivity. If we note the rise and the recent struggles of UK output it may be that measured productivity fell again in the second quarter of this year. So there you have it would you prefer more people in employment or higher productivity? It is not of course completely that simple but it is a factor in play.

Oh and I noted another factor in rising employment.

The increase in the employment rate for women is partly due to ongoing changes to the State Pension age for women resulting in fewer women retiring between the ages of 60 and 65.

Unemployment

This does not necessarily get better as employment improves but generally does.

the unemployment rate for people was 4.5%; it has not been lower since April to June 1975………1.49 million unemployed people, 64,000 fewer than for December 2016 to February 2017 and 152,000 fewer than for a year earlier

Wages

Actually these were a little better although you might not think so from the official release.

Between March to May 2016 and March to May 2017, in nominal terms, total pay increased by 1.8%, lower than the growth rate between February to April 2016 and February to April 2017 (2.1%).

If you look into the detail you see that the annual rate of growth in May at 1.8% was better than the 1.3% in April ( where the annual bonus season was weak dragging it lower). This meant that if we switch to real wages the annual rate of fall rose to -0.9% from the -1.3% of April.

If we look deeper into the real wage situation we see that the index in May was at 100.8 which means that as it was set at 100 in 2015. So we have had economic growth with little if any real wage growth and that stretches back as the index was at that sort of level in the summer of 2011. There is a long way to go to the January 2008 peak of 105.8.

Actually as the “not a national statistic” CPIH is used as the inflation measure I am sorry to have to tell you that a more accurate inflation measure would show an even worse performance.

Comment

To my mind we should be more concerned about the slow rate of productivity growth than the drop in 2007/08. We are now in a world of QE and zombie banks which will take us some time to get out of especially as many places are still getting in it! I would be looking to take some of the service sector out of the numbers on two grounds. The first is that we simply cannot measure it and for others it is not appropriate. As to improving our performance there have been some interesting ideas from Diane Coyle but there are also dangers as I find myself thinking of all the money being spent on Smart Meters for a very small potential gain as I read this.

Ensuring adequate investment in infrastructure to meet our current and future needs and priorities

Also today is another grim day at the Bank of England especially for its Chief Economist Andy Haldane. Perhaps this is the true reason he is on something of a tour of the UK! Regular readers will be aware that I have listed the many failings of “Output Gap” theory in my time here. Andy has been a test case for these as he has got wage growth wrong again and again and again by using it. Well in February he thought he had struck a cunning plan by changing his framework so that the level at which wages would start to surge higher ( NAIRU) would be when unemployment fell to 4.5% or where we are now only a few months later as opposed to the couple of years he expected/hoped.

Dreamer, you know you are a dreamer
Well can you put your hands in your head, oh no!
I said dreamer, you’re nothing but a dreamer (Supertramp)

 

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21 thoughts on “The UK productivity crisis meets real wage growth

  1. Excellent blog post which raises some fundamental issues.

    The economic models assume a linear progression for things like growth and productivity but there is no real basis for doing that. Growth is determined to a significant extent on population and this changes over time and productivity depends on innovation. Neither of these is linear so why should we expect growth next year or productivity to carry on unchanging over the years? In the Middle Ages it is estimated that livings standards remained largely unchanged for around 500 years and yet we expect them to increase year on year!

    What people are going to have to struggle with is that due to demographics our secular growth rate may be much less than in the past and that will provide a quite different background to the one we are used to.

    As far as AI/robotics are concerned these may be much more important as they could eliminate millions of jobs in quite a short period.

    What is disappointing is that bodies like the BOE should be leading the debate on exploring what these things may mean for us all and instead we seem to get sterile discussions around issues that are, as you say, not only difficult to measure, but a lack of understanding of how the changes in context will affect the situation going forward.

    • Two (rather old, but still interesting) NBER papers by Robert J. Gordon that will cheer you up endlessly… “Revisiting U. S. Productivity Growth over the Past Century with a View of the Future” (2010) and “Is U.S. Economic Growth Over? Faltering Innovation Confronts the Six Headwinds” (2012).

      The first uses an economic model to make a quantitative prediction: “over the next 20 years (2007-2027) growth in real potential GDP will be 2.4 percent (the same as in 2000-07), growth in total economy labor productivity will be 1.7 percent, and growth in the more familiar concept of NFPB sector labor productivity will be 2.05 percent. The implied forecast 1.50 percent growth rate of per-capita real GDP falls far short of the historical achievement of 2.17 percent between 1929 and 2007 and represents the slowest growth of the measured American standard of living over any two-decade interval recorded since the inauguration of George Washington.”

      The second “questions the assumption, nearly universal since Solow’s seminal contributions of the 1950s, that economic growth is a continuous process that will persist forever. There was virtually no growth before 1750, and thus there is no guarantee that growth will continue indefinitely. Rather, the paper suggests that the rapid progress made over the past 250 years could well turn out to be a unique episode in human history.” Cheerful stuff.

      • Bob Gordon’s book: “The Rise and Fall of American Growth” is a major study of these issues and should IMV be required reading for anyone who wants to understand them.

    • we expect growth because the leading economists tell us we should have it

      their funky little calculations and plans just don’t work without it

      I have posted here before that – what’s the results if GDP is static , ie close to, if not , zero ?

      static growth or sustainable growth as its otherwise known , is referred to as the derogatory term -” stagnant” . this gives the public the impression it is bad and horrid.

      But that’s been the state for many other centuries as you point out . Only the fossil fuel years have given us great growth and those fuels are being phased out before they go into decline . Nothing we have to replace them does the same bang for buck

      so as I have posited before that the GDP is over stated by about 2% +/- 0.4% ( see I give bands to my figures unlike BoE who’s are caste in permacrete)

      The only thing that has grown has been the debt and money supply – all hidden from view by handy catch phases such as QE – from the people who gave us Sellafeild instead of Winscale ….

      more debt , banning of paper money , blinkered thinking / group think – it will not end well ( our lords and masters will be so ” surprised! ” as always)

      Forbin

      • Think I (and many others) have mentioned the rule of 72? At 2% annual growth the economy will double in 36 years. By 2050 we will need a second London, a second Birmingham, even (Sean) a second Croydon… Also a second M1, a second me, a second you. (I am prepared to attempt to double my red wine consumption.)

        That will not happen so expect much lower growth for many, many years or a collapse.

        Maybe you are right and the 2% growth is actually 0% growth and we can continue with that ‘growth’ rate for a long time!

        The only thing I can think of that grows at an appropriate rate is…popcorn.

      • “blinkered thinking / group think2 couldn’t have put it better myself for this blog!! Ever noticed how everyone agrees with everyone else and you’re all slapping each other on the back and congratulating yourselves, just like the BOE and government.

        I’m trying to spot the difference between this group and the BOE and government. Oh yeah, thats it , you’re not in power!!!…

    • ‘What people are going to have to struggle with is that due to demographics our secular growth rate may be much less than in the past.’

      Good point Bob and one made incessantly by people like Paul Hodges.The amount of people in the peak spending cohort is dropping and those that are in it generally aren’t mortgage free by 50 like previous generations.

  2. Great article as always.

    I just wanted to get your take on the Carillion fiasco (thankfully not a holder). The trading update in march indicated everything was fine. And then a few months later, the company is on its knees. Yet, 25% of the shares were being shorted. So the city knew what was going on, but the investors didn’t. Surely the FCA should be investigating.

    • All markets are blatantly manipulated last week some entity sold 50 million ounces of silver in a couple of minutes….well they didn’t because it was 50 million ounces of paper contracts for silver that doesn’t exist.
      However this sort of manipulation controls the price it is blatant yet there is no investigation…nothing to see move along.
      Criminal!

  3. “Employment is mostly in the service sector where we struggle to measure productivity” … I have absolutely no idea how to measure my “productivity”. As far as I can see, I do in one hour what I do in one hour, and that hasn’t changed for years. If I were a small cog in a big company, the marginal contribution that I made would probably be immeasurable. However, as a one-man band company, you might think I could directly measure my productivity – this is surely the ideal conditions for it? In fact, I know exactly how much I charge clients per one hour of work. But as an export-oriented services provider, I know this goes up and down depending on levels of client demand, the nature of the relationship with clients (e.g. if I agree to lower prices in return for a larger contract which guarantees a high number of hours) the strength of the pound, and as far as I can see, nothing at all to do with “how much I do in an hour”.

    • Hi MyBurningEars

      I can only echo many of your sentiments with one additional example. I indulged in something in a business sense that the establishment would love I made an investment by buying a new laptop. It is better in so many ways that my increasingly decrepit old one – hence the change as it was showing signs of expiring – but will I do more or be more productive? Who knows?

      But here is another catch they will eventually find out via my tax returns but not for quite a while.

  4. Shaun, thanks for highlighting the atrocious measurement and the ignorant hand wringing of the Govt/BoE. They have found it convenient to promise the nation life improvements based on extending a formula which is so obviously untrue for 2017
    How can you measure service productivity? As you suggest impossible! The measure was originally coined in manufacturing (today 8% of UK output). The state shys away from a per capita reality, unwilling to really count the immigrant workers. The true situation is there for every sane person to understand, on most streets in Britain there are gangs of Romanians with buckets and sponges washing cars, this is our advanced society, the high end jobs where we’ve invested in human capital….heh?

    I agree with your comment Zombie banks and Zombie Companies, 10 years of that culture have trashed the basic premise of capital allocation for profit and efficiency.

    Take interest rates to 6% and lets get started clearing out the unsustainable, businesses, banks and bonuses.
    Paul C.

        • Would the sky really fall in if interest rates were a few % or would we just have a recession and then move on.

          Its played out that we’ll turn into a Mad Max society should the over leveraged and foolish lenders be allowed to go bust, think its nonsense myself.

    • Couldn’t agree more, except that the car washers in Berkshire are (I don’t know how they get here) Albanian, not Romanian.
      But measuring productivity in services is, as you say, a joke. I live in horse country and watch horses being ridden out every morning -is a horse trained for 45 minutes more efficient than one ridden for an hour? If my barber cuts my hair in 12 minutes, not 15, have we witnessed a productivity revolution? Are we all richer? If a lawyer manages a case in twenty minutes by telling a client to plead guilty, is that efficient?
      Why don’t we do what we do with the GDP figures and impute extra productivity and include the black market? Then, we could ignore what stares at us in the street and tell each other that all is well.

  5. Still amused that Tax Credit claimant numbers aren’t produced alongside employment figures. I think it would reveal quite a lot – a quite a lot Govt would rather stayed hidden.

    Eg productivity – claim to work 16 hours part time self employed as a single parent to receive tax credits. Don’t have to earn a penny let alone pay any tax, yet can receive large sums depending on number of children. No/little output yet 16 hours apparently worked.

    Same goes with many self-employed parents who are couples. Cleaners, car washers, cabbies. Put down working over 24 hours (if a couple with kids) yet in reality could be just 10. Put an income of £10k – pay no tax yet eligible for Tax Credits.

    Compare to JSA there’s very few checks.

    Then we get to the issue that self-employed income is also not included in ONS releases. All very convenient to make numbers look good. The ongoing deficit says otherwise.

    • I suspect there are lots of “self-employed” people with little more than a hobby business (making and selling a few handicraft products online, trading at boot sales, “wedding planning/photography” with only a few for-cash clients – if any – per year) but the temptation to state you’re working enough hours to claim tax credits must be huge. And fairly easily “justified” if ever needed, with non-verifiable “admin hours” and “time spent networking/researching to try to find new customers”.

      I also wonder how many self-employed couples claim that both work more hours than the threshold even if one does almost all the work – really just an extension of that old tax-dodging trick “my partner is the company secretary so gets paid income up to the tax threshold”, regardless of the hours of ‘secretarial’ work actually performed.

      There has to be a problem with a system that offers big cash rewards for lies and exaggerations that are hard or impossible to disprove – it surely tests both the honesty of the supplicant and the credulity of the provider.

  6. Shaun, is productivity different from the monetary value of all goods and services produced, divided by the total number of hours worked? If it is something like that, is flat productivity anything different from flat wages?

    • Hi Ian
      To your first question pretty much and here is it officially.

      “Labour productivity is calculated by dividing output by labour input. Output refers to gross value added (GVA), which is an estimate of the volume of goods and services produced by an industry, and in aggregate for the UK as a whole. Labour inputs in this release are measured in terms of workers, jobs (“productivity jobs”) and hours worked (“productivity hours”). ”

      To your second there are differences as wages could move with inflation for example and thereby be deflated out of output. Also owners of capital ( businesses and companies ) could benefit from higher productivity but not pay higher wages.

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