Enough with black-hole blaming, Reeves is ignoring low hanging fruit
Raising taxes and plugging black holes, Labour’s discourse ignores proven (and easier) methods to boost productivity, says Paul Ormerod
The Chancellor, Rachel Reeves, has a major financial problem. Much of this is of her own making. Her relentlessly negative narrative about the UK economy has in itself created a stagnant economy.
The issue she faces is how to balance the books. Or, rather, how to create the semblance of balancing the books.
Labour’s productivity discourse is all wrong
The amounts spent on debt interest and welfare benefits alone mean that, without truly drastic measures, the government will run large fiscal deficits for the foreseeable future.
The whole discourse in government is around which taxes to raise to try and plug the black holes which Reeves has created.
Labour luminaries from the past have joined in the debate. The former Labour leader Neil Kinnock has called for a wealth tax. This, we might recall, is the same Neil Kinnock who contrived to lose the 1992 election despite the economy being in recession because the electorate at the time did not trust his economic competence.
Ed Balls, a former shadow Chancellor, is a serious economist. His contribution is to argue for an increase in the rate at which employees pay National Insurance, a rise in income tax in all but name.
This entire debate is framed around the question of how to pay for an already massive amount of public spending in a static economy.
But Balls at least appreciates that the only sustainable way out of the dilemma is to reinvigorate growth in productivity and output. He advocates for this reason a capital gains tax-style cut for people growing their businesses.
Yet this is merely to scratch the surface.
Reeves is ignoring low hanging fruit
There are measures available to Reeves which, at relatively little cost, could do a great deal to boost productivity growth. This is an absolute imperative, given that since 2019 it has grown by barely one per cent a year.
The modern theory of economic growth was developed by the MIT academic Robert Solow in a paper published in 1956. It was a pathbreaking piece for which he subsequently received the Nobel prize.
In essence, he formalised the way in which increases in both the capital stock and the labour force led to economic growth.
There was a third factor in his model, which Solow described rather enigmatically as “technical progress”.
By this he meant not so much innovative new ideas, but the spread of both better technologies and better ways of working to existing firms.
Shortly after the paper was published, economists began analysing data to see which of these three factors made the biggest contribution to growth in practice.
For the developed economies, the answer came as something of a surprise. The most important contribution to economic growth was made by existing firms using existing knowledge to become more productive.
In the UK today, there is plenty of low hanging fruit in this area.
Data from the Office for National Statistics (ONS) shows that the differences in productivity within companies in the same industry is quite striking. Looking at firms at the very top and those at the bottom, the former can easily be four or five times more productive. And these are companies within the same industry, usually defined very narrowly.
In manufacturing, for example, there is already a network of institutes which assist SMEs to improve productivity, such as the CPI in Sedgefield, the National Composite Centre in Bristol and the Royce and Graphene Institutes in Manchester.
But their total budget is tiny in national terms, a mere £300m a year.
Big infrastructure announcements generate a lot of publicity, which is why politicians of all parties like them when they are in power. But a set of policies which target raising productivity in SMEs will be much more effective.
Paul Ormerod is an honorary professor at the Alliance Business School at the University of Manchester and an economist at Volterra Partners LLP