Where will economic growth come from? - tutor2u.net

Where will economic growth come from? - tutor2u.net

Where will growth come from? Notes from lecture given by Prof John Van Reenen (LSE) 17 February 2011 A V shaped recovery ... For now The Cycle: Growth in UK National Output Percent Annual percentage change in GDP measured at constant prices 5 5 4 4 3 3 2 2

1 1 0 0 -1 -1 -2 -2 -3 -3 -4 -4 -5 -5 -6

90 -6 92 94 96 98 00 02 04 06 08 10 12 Source: UK Statistics Commission Recent growth experience A

6.5% decline in real GDP during the first 12 months of the recession a decline of 1930s dimensions But the subsequent recovery (of sorts) puts the recent UK recession on a par with of that the early 1980s The coalitions fiscal austerity program is the biggest budget cut since WWII Austerity plan is to reduce deficit by 7% of GDP by 2015-16 with much of the pain front-loaded to 201112 George Osborne believes we dont need a plan B but Van Reenen argues that we need a Plan V if trend growth is to be sustained Damaging effects of recession Has

there been a permanent fall in output? Lots of uncertainty about this and the size of the output gap Loss of output could be anywhere between 2-10% of GDP Trend growth rate will have diminished 2% may be the new normal for the UK due to hysteresis effects: Scrapping of human capital / people leaving the labour force Long term unemployment now 1/3rd of the total Scrapping of fixed capital / steep decline in capital spending Increased risk aversion of the financial system Micro policies of the Coalition may also be undermining trend growth e.g. Universities and immigration caps But recession and business shake-out may have lifted

efficiency A fall in trend growth estimates UK - Potential GDP and Trend Growth Source: OECD World Economic Outlook 4.00 Estimated UK Trend Growth Rate 3.00 2.00 1.00 0.00 Potential GDP 1.40 1.30 1.20 And high long term unemployment

UK's Long Term Jobless Problem Millions, seasonally adjusted, using Labour Force Survey data 1.6 1.4 Unemployed for up to six months 1.2 1.0 0.8 Unemployed for over 12 months 0.6 0.4 Unemployed for over 24 months 0.2 Investment and Productivity

Investment and Productivity in the UK Economy Quarterly value of capital spending at constant 2003 prices, index of labour productivity Output per worker employed, whole economy 102.5 100.0 97.5 95.0 92.5 90.0 87.5 85.0 65 Real value of capital spending, bn per quarter 60

55 50 45 40 Fiscal austerity & public sector jobs 2011 will see a big public sector jobs squeeze UK Public Sector Employment as % of Total Employment 21.25 21.00 20.75 20.50 20.25 20.00 19.75 19.50

19.25 Relative international performance Using data for % annual change in GDP per capita from 1997-2010 The UK does not come out too badly! UK 1.19% USA 1.05% Germany 1.03% Japan 0.77% Improved But employment rates have helped key in the long run is higher productivity from our factor inputs and productivity gap remains Relative Productivity Improves

UK remains 13% less productive than the USA measured by GDP per hour, $PPP There have been some improvements in overall GDP per capita in the UK The GDP has closed with Germany and on some measures we have now overtaken them Reasons: % of UK workers with a college degree has risen by 12% from 1997-2010 up-skilling of labour force Increased intensity of competition in product markets Impact of foreign direct investment Better management practices from private equity boom Productivity Improvements UK Labour Productivity and the Cycle Annual % change in output per worker for the whole economy

4 Real GDP 3 2 Labour productivity 1 0 -1 -2 -3 -4 -5 Output per person hour United Kingdom Labour Productivity Index of output per hour worked, whole economy, seasonally adjusted

105.0 102.5 100.0 97.5 95.0 92.5 90.0 87.5 85.0 82.5 80.0 But Productivity Gap Remains 1/ UK has an innovation deficit UK 2nd to US in terms of top scientific papers cited

But commercialisation of innovation is weak i.e. turning R&D into commercial patents with real value R&D as a share of GDP remains low and has actually fallen over the last 20 years despite many tax incentives Deep-rooted failures in the market for knowledge because ideas are promiscuous and the free-rider effect is hard to avoid 2/ Weaknesses in management practices apparent US firms seem to use ICT more effectively in long run UK management is mid-table by international standards on a par with Canada, Italy & Australia US economy appears better at weeding out weaker firms Intensity of competition does influence the quality of management When market competition is fierce: Badly run firms more likely to exit (selection effect) Forces badly run firms to try harder to survive in their market (effort effect) Family-run firms which are passed on tend to be relatively badly run

Smaller pool of people to select CEO from Possible Carnegie Effect on future CEOs - if you know you will inherit the firm one day Less career incentives for non-family managers Might also be a lack of fundamental dynamism especially in small to medium sized family run enterprises Britain needs a Plan V (Viagra!) Get the conditions right for long term growth Stronger commitment to trade and competition Incentivise R&D as social return is twice the private return Tax reforms to remove 100% inheritance tax exemptions for family businesses to encourage improved management Focus

human capital investment at lower skilled and younger workers E.g., expanded apprenticeships Avoid damaging migration caps and removal of teaching subsidies for universities in a global war for talent Focus on sector growth in industries where competitive advantage can be successfully nurtured and exploited. Namely...healthcare, niche manufacturing, green energy, universities, bio-pharmaceuticals, creative industries What else would you want to put into Plan V?

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