UK: Deloitte Monday Briefing: How To Make Economies Grow

Last Updated: 27 September 2012
Article by Ian Stewart

Most Read Contributor in UK, August 2017

* The last five years have seen the worst growth performance by the UK economy since the 1920s. Yet in important respects the economy is faring far better than it did in the late '20s.

* Part of the reasons lies in low interest rates and forbearance on the part of lenders which have helped soften the damage to the economy in this cycle. The UK has also escaped Great Depression levels of unemployment. Indeed, employment has risen for the last three years, as job growth in the private sector has outstripped public sector job losses. Ben Broadbent, a member of the Bank of England's Monetary Policy Committee, has recently observed that had the normal, pre-recession relationships held, the number of jobs in the UK would have fallen by 8% over the last 5 years. Instead employment has stayed roughly unchanged.

* The result is that the UK's unemployment rate today is well below the peaks seen in the previous, milder recessions of the '80s and '90s. This is obviously welcome. But the combination of an expanding workforce and a shrinking economy has meant that productivity, or output per worker, has dropped.

* There are plenty of possible explanations for what is going on. GDP growth may be understated and productivity, therefore, stronger than they appear at the moment. Companies could be hanging onto workers in the hope of an upturn in growth. This avoids the cost of firing and hiring workers and is a plausible strategy in an environment, as we are seeing today, of weak wage growth. An alternative explanation is that the recession has permanently depressed productivity by, for instance, disrupting the financial system and weakening consumer activity.

* The causes of the UK's current productivity puzzle remain obscure. But what history does show is that in the long term technology and innovation are two of the main drivers of productivity.

* To understand what can make the UK economy grow in the future it is useful to see what has worked in the past. Here are five themes which emerged from a lunch we had last week with the economic historian, Professor Nick Crafts of Warwick University, one of the leading authorities on innovation and economic activity.

* First, the application of new technology in an economy is at least as important as innovation. It is not necessarily ground-breaking innovations that matter to an economy as much as the ability to realise the potential of new ideas wherever they come from. Harnessing technology effectively needs a skilled workforce and managers and systems which facilitates the diffusion of new techniques. Within Europe countries vary in their capacity to exploit new technologies. The World Economic Forum ranks Ireland first out of 144 countries on its ability to absorb new technologies through foreign direct investment. By contrast Italy is ranked 122nd.

* Second, historically the lag between invention and application has been long. So, for instance, the big impact of electricity on American productivity was in the 1920s, when US factories became organised around electrical power, a full 40 years after the pioneering experiments of Thomas Edison.

* Third, the good news is that the lag between invention and exploitation is shortening. It took 150 years for the full effect of steam power to be felt on UK productivity. Professor Crafts believes similar economic effects have been felt in the US from the information, communication and technology revolution in less than four decades. The implication is that today's innovations are being exploited more quickly, changing patterns of activity and raising growth at a faster pace.

* Fourth, markets often find new and unforeseen uses for technologies, creating more pervasive economic effects than were envisaged by their inventors. The original application for radio, one of the transformational technologies of the twentieth century, was for ship to shore communication. Global Positional System (GPS) technology was created for military use but has become a ubiquitous and productivity enhancing civil technology.

* Fifth, consumers, rather the inventors or companies, tend to be the principle beneficiaries of innovation. Professor Crafts estimates that only around 2% of the total social gain from the technological process accrue to the innovators. Railways were a revolutionised travel in the nineteenth century but proved a poor investment. Mass air travel has changed the world in the last 40 years but for much of this time the airline sector has faced poor profitability.

* Innovation is vital, yet history shows that it is the application of new products and processes in the workplace that boosts growth. Getting inventions to work often requires changes to organisations and working practices. Economies and companies which have this flexibility have an advantage. We should not underestimate the value of being able to put other peoples' ideas to work.


The FTSE ended the week -1.0% following a series of poor economic data from Europe and China.

Here are some recent news stories that caught our eye as reflecting key economic themes:


* UK public sector net borrowing, excluding financial intervention, rose to £14.41bn in August, the largest August deficit since records began in 1993 – public finances

* Mervyn King, the Governor of the Bank of England, said it would be "acceptable" for the UK government to miss its debt reduction targets if slow growth in the world economy were to blame – public finances

* Eurozone private sector activity contracted in September at its fastest rate since June 2009, according to purchasing managers data – euro growth crisis

* The Italian government cut its forecast for growth in 2012 to -2.4%, from a previous estimate of -1.2% - eurozone growth crisis

* Chinese manufacturing activity contracted for the 11th month in a row in September, according to a private sector survey of factory managers – slowdown * The Bank of Japan announced an increase in the value of its asset purchasing programme, citing the effects of "decelerating" global growth – quantitative easing

* Jens Weidmann, president of the German Bundesbank, warned of the dangers of "potentially dangerous correlation of paper money creation, state financing and inflation" – euro crisis politics

* Ratings agency Egan-Jones cut its credit rating on US government debt to "AA-" from "AA", citing the effects of increased quantitative easing on the value of the dollar – quantitative easing

* UK consumer price inflation fell back to an annual rate of 2.5% in August from 2.6% in July – inflation

* The Ukrainian government agreed to a $3bn 'loan-for-corn' deal with China, whereby Ukraine will annually export supplies of the grain to China in return for access to credit – commodities

* The Greek government is to sell its 10,000 square foot consular residence in London in order to raise funds – Greece

* Data compiled by Bloomberg shows that a total of €326bn left banks in Spain, Portugal, Ireland and Greece in the year to July 31 – capital flight

* The Spanish government sold €860m worth of debt at an average yield of 5.7%, significantly below the 6.6% yield charged at the beginning of August – Spain

* The value of bad debts – defined as debts in arrears – held by Spain's banks in July rose to €169.3bn, according to data from the Spanish central bank – banking stress

* Money lender Wonga announced profits of £45.8m in 2011, up 269% from 2010, driven by strong demand for consumer credit – squeezed consumer

* New car sales in the EU fell at an annual rate of 8.9% in August, recording their lowest level since records began 22 years ago – slowdown

* Asia overtook North America for the first time as the region with the most individuals with $1m or more in easily investable assets, according to survey data from Royal Bank of Canada and Capgemini – emerging markets

* Sales of e-books rose 188% in value in the first half of 2012 compared to a year earlier, according to data from the Publishers Association – digital revolution

* Japanese Airlines launched a $8.5bn initial public offering (IPO) on the Tokyo Stock Exchange – IPO

* The European Central Bank (ECB) announced the cost of building its new headquarters, due for completion in 2014, could run up to €350m over budget – budget overshoot

* Graduates from the South Dakota School of Mines & Technology got paid an average salary of $56,700 this year, more than graduates from Harvard University according to data from PayScale Inc. – minerals and mining boom

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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