Why hasn’t the British economy grown faster?

THE FIRST quarter of 2022 was a good one for the British economy. According to updated figures published on June 30th, GDP grew by 0.8%, compared with the last quarter of 2021. That easily beat the rest of the G7 (next best: Germany’s 0.2%) and the OECD average (0.3%). In 2021, too, Britain led the G7 with growth of 7.4%. Stand back, however, and the picture is less bright. Last year marked only a partial rebound from the G7’s sharpest contraction in 2020, amid covid-19 lockdowns. Britain’s official statisticians estimate that GDP shrank in both March and April. The OECD thinks it will be flat next year. More troubling, once you strip away the noise of individual months, quarters and years, is the long-term record. In the decade before the global financial crisis of 2007-09, GDP cantered along at 2.7% a year. Now the Office for Budget Responsibility (OBR), a fiscal watchdog, projects that in the long term 1.7% will be the norm. Why hasn’t Britain been doing better?

In a word: productivity. Over the long term, productivity growth—the ability to make more with less—is what matters for rising living standards. It comes either from raising the amount people can produce per hour worked (aided by investment in machinery and equipment) or from improving the efficiency with which people and capital are combined (which economists call total factor productivity, or TFP). In the 19th century, Britain’s productivity was, to borrow a phrase, world-beating. But around the turn of the 20th, America overtook it. Britain hasn’t been top dog since. It started the 21st century well, with productivity growth second only to America’s in the G7 between 1997 and 2007. After the financial crisis productivity growth slowed across the G7, but Britain fared worse than most. Between 2009 and 2019 it outran only Italy.

What, in turn, lies behind Britain’s sluggish productivity? There are plenty of likely culprits, none entirely innocent. The financial crisis slowed down the flow of credit. One study has found that firms with weak balance sheets before the crisis found themselves short of finance after it. Their TFP growth suffered, partly because they innovated less. Another point to a TFP slowdown in financial services and other technology- and knowledge-intensive industries. The crisis also dampened demand—which stingy government spending held down further. That blunted incentives to innovate.

Then came Brexit. Even though Britain did not leave the EU’s single market until the end of 2020, more than four years after the referendum, uncertainty over the impending departure weighed on investment. Brexit is likely to keep depressing Britain’s productivity. Erecting barriers to commerce with the country’s biggest trading partner makes supply chains less efficient and has limited the market some British companies (especially small ones) can serve. The OBR predicts that thanks to Brexit, Britain’s productivity will eventually be 4% lower than it would otherwise have been.

Brexit adds to problems that were already deep-seated. Investment was a bugbear long before it. For around 30 years Britain has invested less, as a percentage of GDP, than have America, France and Germany. It also devotes a smaller share of GDP to research and development. Some point to restrictive planning laws—for example, constraining building around innovation hubs such as Cambridge and Oxford. Other long-running complaints include an educational system that has been sending more young people to university but still equips too few with the skills employers want, a financial system that fails to supply the equity capital small companies need if they are to blossom; the quality of management; and regional inequalities, exacerbated by poor transport.

The government believes that Brexit will be a help not a hindrance, mainly by allowing deregulation to unleash latent ingenuity. It claims that its “levelling up” agenda will let flagging parts of the country flourish. Perhaps. But how and when remain unclear. Meanwhile, many old worries about British growth and productivity will linger on.

More from The Economist explains:
Why Britain is extending controversial tariffs on steel
What is stagflation, and might it make a comeback?
Do the poor face higher inflation?

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