MNI INTERVIEW: UK Productivity Suffering Long-Term Scarring

The Bank of England’s downbeat view on British productivity is shaped by the enduring effects of a collapse in investment in intangibles like software, research and development and brands since the global financial crisis of 2007-2008 which shows little sign of regaining former levels, economist Maarten de Ridder told MNI.

While credit access recovered after 2008, there was no catch-up bounce in investment to make up for the losses that were incurred during the crisis, said London of School Economics Assistant Professor de Ridder, whose work has been cited by BOE Governor Andrew Bailey and was referenced in the Bank's February Monetary Policy Report's re-examination of productivity and potential growth.

"A temporary drop in productivity-enhancing investments can permanently affect the level of productivity and GDP," de Ridder said in written response to questions from MNI. ”As a consequence, GDP has remained far below levels forecast prior to the crisis."

In its Monetary Policy Report, the BOE foresaw productivity growth at 0.5% in 2024 and 0.6% in 2025, in line with the historically low 0.5% average in 2010-19. Combined with a tighter labour supply, this would restrict potential growth to just 0.7% a year by the end of the forecast period, down from the BOE’s previous estimate of 1.5%.

BREXIT

Innovations from intangible investment, which cover non-tangible areas like R&D as well as software techniques, can also benefit companies beyond those making the expenditure, but this transmission of positive spillover effects has been affected in the UK’s case by Brexit, noted de Ridder.

“The UK’s exit from the EU Single Market as part of Brexit has caused barriers for UK firms to be able to fully benefit from innovation in the Continent. As a consequence, even sustained productivity-enhancing investments may not be sufficient for productivity growth to return to higher levels," he said, "While higher innovative investments would … yield higher productivity growth in the UK, a much larger problem might be a lack of positive spillovers.”

De Ridder's research links closely to the work of Monetary Policy Committee member Jonathan Haskel, who has written extensively on the impact of intangibles on the economy. Bailey also referred to this in a speech on the long-term equilibrium interest rate, R-star, which the BOE believes is still historically low irrespective of the current cycle of high inflation and rising interest rates.

But while intangibles are key to the UK growth puzzle, researchers point to nuances. Some intangibles, including software, can used by incumbents to deter entry into an industry, de Ridder noted. Haskel, pointing to a less pronounced productivity growth decline in the U.S., has even raised the possibility that firms such as the big names of Silicon Valley have got better at monopolising their discoveries.

"Intangible investments have particularly favoured large, incumbent firms. Intangibles are scalable: once you have invested in intangibles, they can be deployed at a large scale for almost no additional costs,” de Ridder said. “This can harm growth in the long run, as scalable intangibles can prevent productive new firms from entering the market, as entrants are unable to use intangibles at the same scale as large incumbent firms can.”