Productivity matters more than ever!


Jeremy Peat, Visiting Professor, IPPI, University of Strathclyde. First appeared on IPPI Blog.


Despite the Brexit vote economic life goes on, and more than ever we need to work through how Scotland’s economic performance can be enhanced. Nobody knows precisely what life beyond the referendum vote will actually mean for the UK; let alone what lies ahead for Scotland. However, in order to minimise the risks within our economy, and maximise the prospects for prosperity, businesses in Scotland must be innovative and competitive. As set out in my IPPI Policy Brief some months back that implies a real focus on improving productivity across our economy.

Apparently ‘productivity’ is not a regular feature of debate in business circles. But it should be. It simply means output per unit of input – how efficient we are in producing goods and services. Overall growth in our economy, the increase in Gross Domestic Product, comes from increased productivity plus population growth. But increased affluence, increased output per head of the population, relates to productivity growth alone.

Likewise improved competitiveness of companies in domestic or overseas markets is a result of productivity growing faster than is the case for competitors; relative productivity growth is what matters.

Until around the time of the global recession productivity across the UK grew steadily year-on-year by some 1½ to 2%, a rate comparable with many international competitors. Since perhaps the mid-2000s productivity growth has slowed both in absolute terms – implying slower trend growth of GDP per head – and relative to those key competitors – implying reducing competitiveness for companies. These changes apply equally, so far as we can tell from limited data, in Scotland as in the UK.

While these disappointing trends continue, affluence across Scotland will suffer. And as a general rule our businesses will struggle to compete. This should be of real concern to Government, the business sector and indeed all across Scotland.

In my IPPI Policy Brief I identified four possible causes of the trend change. Perhaps the most significant could be labour supply developments. More lower-skilled labour may have been readily available across the UK (in part due to in-migration) and taken into businesses to help increase output as an alternative to capital investment. This in part could be due to risk aversion in business following the recession (my second possible cause) related to management focusing on the financial stability of companies rather than being innovative and entrepreneurial (my cause 3). The final possible feature may have been a shortage of risk capital as the banks, particularly in Scotland, struggled to recover from the 2008 debacle.

Without the Brexit vote there were hopes that productivity performance would steadily improve, as surplus labour supply decreased, confidence in the economic outlook improved and loan funds became more readily available – all leading to more and more innovative investment.

What now? Clearly we face many months and indeed years of uncertainty; more so in Scotland as the prospect of a second referendum on independence looms, potentially with a very different outcome. Investment and innovation could be put on hold while that uncertainty dominates.

At the same time the value of sterling has tumbled and this should, at least for a time, improve competitiveness in overseas markets and where Scottish companies are competing domestically with potential foreign suppliers of goods and services. But as many countries know to their cost, improving competitiveness via currency depreciation is rarely the route to economic salvation.

In sum I see the risks to Scottish productivity growth and competitiveness, and indeed to prosperity, having increased markedly as a result of this referendum result. That makes it even more important that Government, business organisations, STUC, Scottish Enterprise and the like focus on how to encourage investment, innovation, best use of key skills, being outward looking, better understanding of markets and thoughtful risk taking.

Previously I have proposed a short term ‘Productivity Commission’ for Scotland. Maybe that now needs to be widened to cover the economic implications for Scotland of the route to Brexit. But most certainly it has never been more important to work towards more effective economic policies in Scotland and encouragement of renewed productivity growth.