Category: Economics 9e: Ch 22

In the last blog post, As UK inflation rises, so real wages begin to fall, we showed how the rise in inflation following the Brexit vote is causing real wages in the UK to fall once more, after a few months of modest rises, which were largely due to very low price inflation. But how does this compare with other OECD countries?

In an article by Rui Costa and Stephen Machin from the LSE, the authors show how, from the start of the financial crisis in 2007 to 2015 (the latest year for which figures are available), real hourly wages fell further in the UK than in all the other 27 OECD countries, except Greece (see the chart below, which is Figure 5 from their article). Indeed, only in Greece, the UK and Portugal were real wages lower in 2015 than in 2007.

The authors examine a number of aspects of real wages in the UK, including the rise in self employment, differences by age and sex, and for different percentiles in the income distribution. They also look at how family incomes have suffered less than real wages, thanks to the tax and benefit system.

The authors also look at what the different political parties have been saying about the issues during their election campaigns and what they plan to do to address the problem of falling, or only slowly rising, real wages.

Articles

Real Wages and Living Standards in the UK LSE – Centre for Economic Performance, Rui Costa and Stephen Machin (May 2017)
The Return of Falling Real Wages LSE – Centre for Economic Performance, David Blanchflower, Rui Costa and Stephen Machin (May 2017)
The chart that shows UK workers have had the worst wage performance in the OECD except Greece Independent, Ben Chu (5/6/17)

Data

Earnings and working hours ONS
OECD.Stat OECD
International comparisons of productivity ONS

Questions

  1. Why have real wages fallen more in the UK than in all OECD countries except Greece?
  2. Which groups have seen the biggest fall in real wages? Explain why.
  3. What policies are proposed by the different parties for raising real wages (a) generally; (b) for the poorest workers?
  4. How has UK productivity growth compared with that in other developed countries? What explanations can you offer?
  5. What is the relationship between productivity growth and the growth in real wages?

The French have elected Emmanuel Macron as their new President. He claims to be from the economic centre. But just what does this imply for his vision of how the French economy should be run? What policies is he likely to put in place? Can these policies rightly be described as ‘centrist’? In practice, some of his policies are advocated by the centre right and some by the centre left.

He wants to institute policies that are pro business and will have the effect of stimulating private investment, increasing productivity and resulting in faster economic growth.

His pro-business policies include: reducing corporation tax from its current 33.3% to 25%, the hope being that firms will invest the money that this will free up; reducing labour taxes on companies for employing low-wage workers; making the current 35-hour working week less rigid by giving firms greater ability to negotiate special arrangements with trade unions.

Other policies drawn from the centre right include reducing the size of the state. Currently, general government spending in France, at 56.5% of GDP, is the highest of the G7 countries. Italy’s is the next highest at 49.6%, followed by Germany at 44.3%, Canada at 40.8%, the UK at 39.4%, Japan at 36.8% and the USA at 35.2%. President Macron wants to reduce the figure for France to 52% over his five-year term. This will be achieved by cutting 120,000 public-sector jobs and reducing state spending by €60bn. He plans, thereby, to reduce the general government deficit from its 2016 level of 3.4% of GDP to 1% by 2022 and reduce the general government debt from 96.0% of GDP to 93.2% over the same period.

Drawing from centre-left policies he plans to increase public investment by €50bn, including €15bn on training, €15bn on green energy and €5bn each on transport, health, agriculture and the modernisation of public administration. But as this additional expenditure is less than the planned savings through greater efficiency and as GDP is projected to grow, this is still consistent with achieving a reduction in the general government deficit as a percentage of GDP. He has also pledged to extend welfare spending. This will include making the self-employed eligibile for unemployment benefits.

M Macron isalso strongly supportive of France’s membership of the EU and the euro. Nevertheless he wants the EU to be reformed to make it more efficient and achieve significant cost savings.

Articles

Macronomy: What are Emmanuel Macron’s economic plans? BBC News, Simon Atkinson (8/5/17)
Factbox: Emmanuel Macron’s presidential election policies Reuters, Brian Love (14/4/17)
What Analysts Are Saying About Macron’s Victory Bloomberg, Chris Anstey (8/5/14)
The Main Points of Emmanuel Macron’s Economic Programme NDTV, India (9/5/14)
Can Emmanuel Macron solve France’s economic riddle? The Guardian, Larry Elliott (30/4/17)
Why Emmanuel Macron’s bid to haul France out of its economic malaise will be harder than he thinks The Telegraph, Szu Ping Chan and Tim Wallace (30/4/17)
Macron’s policies on Europe, trade, immigration and defence Financial Times, Hannah Murphy (7/5/17)
French presidential election: Investors, economists and strategists react to Macron’s victory Independent, Josie Cox (8/5/17)

Questions

  1. Compare the performance of the French, German and UK economies over the past 10 years.
  2. Why does France have much lower levels of inequality and much higher productivity than the UK?
  3. How would (a) a neoliberal and (b) Keynesian economist explain the slow growth performance of France?
  4. Give some other examples of centre-right economic policies that could be pursued by a centrist government.
  5. Give some other examples of centre-left economic policies that could be pursued by a centrist government.
  6. How do M Macron’s policies differ from those of the (a) Conservative, (b) Labour and (c) Liberal Democrat parties in the manifestos for the 2017 General Election in the UK?
  7. What economic difficulties is M Macron likely to find in carrying out his policies?
  8. Would you describe M Macron’s macroeconomic policies as demand-side or supply -side policies? Explain.
  9. What specific economic policies does France want Germany to pursue?

According to Christine Lagarde, Managing Director of the IMF, the slow growth in global productivity is acting as a brake on the growth in potential income and is thus holding back the growth in living standards. In a recent speech in Washington she said that:

Over the past decade, there have been sharp slowdowns in measured output per worker and total factor productivity – which can be seen as a measure of innovation. In advanced economies, for example, productivity growth has dropped to 0.3 per cent, down from a pre-crisis average of about 1 per cent. This trend has also affected many emerging and developing countries, including China.

We estimate that, if total factor productivity growth had followed its pre-crisis trend, overall GDP in advanced economies would be about 5 percent higher today. That would be the equivalent of adding another Japan – and more – to the global economy.

So why has productivity growth slowed to well below pre-crisis rates? One reason is an ageing working population, with older workers acquiring new skills less quickly. A second is the slowdown in world trade and, with it, the competitive pressure for firms to invest in the latest technologies.

A third is the continuing effect of the financial crisis, with many highly indebted firms forced to make deep cuts in investment and many others being cautious about innovating. The crisis has dampened risk taking – a key component of innovation.

What is clear, said Lagarde, is that more innovation is needed to restore productivity growth. But markets alone cannot achieve this, as the benefits of invention and innovation are, to some extent, public goods. They have considerable positive externalities.

She thus called on governments to give high priority to stimulating productivity growth and unleashing entrepreneurial energy. There are several things governments can do. These include market-orientated supply-side policies, such as removing unnecessary barriers to competition, driving forward international free trade and cutting red tape. They also include direct intervention through greater investment in education and training, infrastructure and public-sector R&D. They also include giving subsidies and/or tax relief for private-sector R&D.

Banks too have a role in chanelling finance away from low-productivity firms and towards ‘young and vibrant companies’.

It is important to recognise, she concluded, that innovation and structural change can lead to some people losing out, with job losses, low wages and social deprivation. Support should be given to such people through better education, retraining and employment incentives.

Articles

IMF chief warns slowing productivity risks living standards drop Reuters, David Lawder (3/4/17)
Global productivity slowdown risks social turmoil, IMF warns Financial Times, Shawn Donnan (3/4/17)
Global productivity slowdown risks creating instability, warns IMF The Guardian, Katie Allen (3/4/17)
The Guardian view on productivity: Britain must solve the puzzle The Guardian (9/4/17)

Speech
Reinvigorating Productivity Growth IMF Speeches, Christine Lagarde, Managing Director, IMF(3/4/17)

Paper
Gone with the Headwinds: Global Productivity IMF Staff Discussion Note, Gustavo Adler, Romain Duval, Davide Furceri, Sinem Kiliç Çelik, Ksenia Koloskova and Marcos Poplawski-Ribeiro (April 2017)

Questions

  1. What is the relationship between actual and potential economic growth?
  2. Distinguish between labour productivity and total factor productivity.
  3. Why has total factor productivity growth been considerably slower since the financial crisis than before?
  4. Is sustained productivity growth (a) a necessary and/or (b) a sufficient condition for a sustained growth in living standards?
  5. Give some examples of technological developments that could feed through into significant growth in productivity.
  6. What is the relationship between immigration and productivity growth?
  7. What policies would you advocate for increasing productivity? Explain why.

UK productivity growth remains well below levels recorded before the financial crisis, as Chart 1 illustrates. In fact, output per hour worked in 2016 Q3 was virtually the same as in 2007 Q4. What is more, as can be seen from Chart 2, UK productivity lags well behind its major competitors (except for Japan).

But why does UK productivity lag behind other countries and why has it grown so slowly since the financial crisis? In its July 2015 analysis, the ONS addressed this ‘productivity puzzle’.

Among the many reasons suggested are low levels of investment, the impact of the financial crisis on bank’s willingness to lend to new businesses, higher numbers of people working beyond normal retirement age as a result of population and pensions changes, and firms’ ability to retain staff because of low pay growth. While these and other factors may be relevant, they do not provide a complete explanation for the weakness in productivity.

The lack of investment in technology and lack of infrastructure investment have been key reasons for the sluggish growth in productivity. Many companies are prepared to continue using relatively labour-intensive techniques because wage growth has been so low and this reduces the incentive to invest in labour-saving technology.

Another factor has been long hours and, for many office workers, being constantly connected to their work, checking and responding to emails and messages away from the office. The Telegraph article below reports Ann Francke, chief executive of the Chartered Management Institute, as saying:

“This is having a deleterious effect on the health of managers, which has a direct impact on productivity. UK workers already have the longest hours in Europe and yet we’re less productive.”

Another problem has been ultra low interest rates, which have reduced the burden of debt for poor performing companies and has allowed them to survive. It may also have prevented finance from being reallocated to more dynamic companies which would like to develop new products and processes.

Another feature of UK productivity is the large differences between regions. This is illustrated in Chart 3. Productivity in London in 2015 (the latest full year for data) was 31.5% above the UK average, while that in Wales was 19.4% below.

This again reflects investment patterns and also the concentration of industries in particular locations. Thus London’s financial sector, a major part of London’s economy, has experienced relatively large increases in productivity and this has helped to push productivity growth in the capital well above other parts of the country.

Another factor, which again has a regional dimension, is the poor productivity performance of family-owned businesses, where ownership and management is passed down the generations within the family without bringing in external managerial expertise.

The government is very aware of the UK’s weak productivity performance. Its recently launched industrial policy is designed to address the problem. We look at that in a separate post.

Articles

UK productivity edges up but growth still flounders below pre-crisis levels The Telegraph, Julia Bradshaw (6/1/17)
Weak UK productivity spurs warnings of living standards squeeze The Guardian, Katie Allen (6/1/17)
Productivity gap yawns across the UK BBC News, Jonty Bloom (6/1/17)
The UK productivity puzzle Fund Strategy. John Redwood (26/1/17)
Productivity puzzle remains for economists despite UK growth in third quarter of 2016 City A.M., Jasper Jolly (6/1/17)

Portal site
Solve the Productivity Puzzle Unipart

Report

Productivity: no puzzle about it TUC (Feb 2015)

Data

Labour Productivity: Tables 1 to 10 and R1 ONS (6/1/17)
International comparisons of UK productivity (ICP) ONS (6/10/16)
Gross capital formation (% of GDP) The World Bank

Questions

  1. In measuring productivity, the ONS uses three indicators: output per worker, output per hour and output per job. Compare the relative usefulness of these three measures of productivity.
  2. How would you explain the marked difference in productivity between regions and cities within the UK?
  3. How do flexible labour markets impact on productivity?
  4. Why is investment as a percentage of GDP so low in the UK compared to that in most other developed countries (see)?
  5. Give some examples of industrial policy measures that could be adopted to increase productivity growth.
  6. Examine the extent to which very low interest rates and quantitative easing encourage productivity-enhancing investment.

The IMF has just published its six-monthly World Economic Outlook. It expects world aggregate demand and growth to remain subdued. A combination of worries about the effects of Brexit and slower-than-expected growth in the USA has led the IMF to revise its forecasts for growth for both 2016 and 2017 downward by 0.1 percentage points compared with its April 2016 forecast. To quote the summary of the report:

Global growth is projected to slow to 3.1 percent in 2016 before recovering to 3.4 percent in 2017. The forecast, revised down by 0.1 percentage point for 2016 and 2017 relative to April, reflects a more subdued outlook for advanced economies following the June UK vote in favour of leaving the European Union (Brexit) and weaker-than-expected growth in the United States. These developments have put further downward pressure on global interest rates, as monetary policy is now expected to remain accommodative for longer.

Although the market reaction to the Brexit shock was reassuringly orderly, the ultimate impact remains very unclear, as the fate of institutional and trade arrangements between the United Kingdom and the European Union is uncertain.

The IMF is pessimistic about the outlook for advanced countries. It identifies political uncertainty and concerns about immigration and integration resulting in a rise in demands for populist, inward-looking policies as the major risk factors.

It is more optimistic about growth prospect for some emerging market economies, especially in Asia, but sees a sharp slowdown in other developing countries, especially in sub-Saharan Africa and in countries generally which rely on commodity exports during a period of lower commodity prices.

With little scope for further easing of monetary policy, the IMF recommends the increased use of fiscal policies:

Accommodative monetary policy alone cannot lift demand sufficiently, and fiscal support — calibrated to the amount of space available and oriented toward policies that protect the vulnerable and lift medium-term growth prospects — therefore remains essential for generating momentum and avoiding a lasting downshift in medium-term inflation expectations.

These fiscal policies should be accompanied by supply-side policies focused on structural reforms that can offset waning potential economic growth. These should include efforts to “boost labour force participation, improve the matching process in labour markets, and promote investment in research and development and innovation.”

Articles

IMF Sees Subdued Global Growth, Warns Economic Stagnation Could Fuel Protectionist Calls IMF News (4/10/16)
The World Economy: Moving Sideways IMF blog, Maurice Obstfeld (4/10/16)
The biggest threats facing the global economy in eight charts The Telegraph, Szu Ping Chan (4/10/16)
IMF and World Bank launch defence of open markets and free trade The Guardian, Larry Elliott (6/10/16)
IMF warns of financial stability risks BBC News, Andrew Walker (5/10/16)
Backlash to World Economic Order Clouds Outlook at IMF Talks Bloomberg, Rich Miller, Saleha Mohsin and Malcolm Scott (4/10/16)
IMF lowers growth forecast for US and other advanced economies Financial Times, Shawn Donnan (4/10/16)
Seven key points from the IMF’s latest global health check Financial TImes, Mehreen Khan (4/10/16)
Latest IMF forecast paints a bleak picture for global growth The Conversation, Geraint Johnes (5/10/16)

IMF Report, Videos and Data
World Economic Outlook, October 2016 IMF (4/10/16)
Press Conference on the Analytical Chapters IMF (27/9/16)
IMF Chief Economist Maurice Obstfeld explains the outlook for the global economy IMF Video (4/10/16)
Fiscal Policy in the New Normal IMF Video (6/10/16)
CNN Debate on the Global Economy IMF Video (6/10/16)
World Economic Outlook Database IMF (October 2016)

Questions

  1. Why is the IMF forecasting lower growth than in did in its April 2016 report?
  2. How much credibility should be put on IMF and other forecasts of global economic growth?
  3. Look at IMF forecasts for 2015 made in 2013 and 2012 for at least 2 macroeconomic indicators. How accurate were they? Explain the inaccuracies.
  4. What are the benefits and limitations of using fiscal policy to raise global economic growth?
  5. What are the main factors determining a country’s long-term rate of economic growth?
  6. Why is there growing mistrust of free trade in many countries? Is such mistrust justified?