Why are British workers getting less productive?

The IFS produced a new report today examining why British workers are getting less productive.

Low wages, low business investment and a misallocation of capital have led to a ‘dramatic fall’ in labour productivity, according to a new report.

The Institute for Fiscal Studies (IFS) believes Britain is producing 12.8% less than had labour productivity growth continued at pre-recession rates. [Source: The productivity puzzles (pdf)]

Falling productivity helps to explain why employment has been rising in the UK despite sluggish growth in output.

British workers now produce 2.6% less output per hour worked than they did at the start of 2008. The IFS believes the key reasons for this are low real wages, low business investment and a misallocation of capital.

Its research suggests lower wages allow firms to employ more people, and this in turn has a negative effect on productivity. According to the report, a more flexible labour market and more demanding benefit system are combining to cause employment to remain stable.

These two changes mean labour supply in this recession have remained higher than in the recessions of the 1980s and 1990s.

The second main reason given by the IFS for falling productivity is a fall in business investment. Investment is now around 16% lower than its pre-recession high. This is a sharper fall than in previous recessions, and a fall that has demonstrated significant persistence.

“If workers have less, and less good, capital to work with they will produce less,” says the report.  The report also blames the misallocation of capital, suggesting an impaired financial sector is failing to effectively deliver capital towards more productive and away from less productive firms.

The report rejected some of the other explanations given for what it terms the ‘productivity puzzle’. One was the ‘labour hoarding’ argument, the suggestion firms are employing more workers than necessary. It also dismissed the idea the demise of financial services has led directly to a fall in productivity.

Another interesting finding by the report was the public sector has bucked this trend. There has been a 6% fall in public sector employment since 2009, a period during which public sector output rose slightly.

The report notes:

“The long run effects of lower employment on service quality remains to be seen.”

Wenchao Jin, a research economist at IFS, commented:

 “The fall in labour productivity seems to have been driven by low real wages and low firm investment. Productivity slowdown has happened right across the economy. They have not been driven by a change in the composition of the economy nor by a change in the composition of the workforce.”

See also:

This depression is the longest in modern history, so why is the economy still creating jobs?January 25th, 2013

GDP growth masks fall in wages and impact on union rightsOctober 29th, 2012

The economic puzzle: The stats may be good but the grim jobs news keeps comingOctober 26th, 2012

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