Labour must lay out an economic vision

I recently backed the IPPR Economics Prize for individuals or groups with ideas for radically improving the quality and quantity of economic growth in the UK.

If a Labour government was elected tomorrow, how would it change our economic policy to improve the lives of people across the country? The continuing Brexit debate is undoubtedly critical to the future of the country, but so is developing a credible alternative to successive governments' economic policies which have helped create a low-growth, low-productivity, highly unequal country. We must focus energy on finding an alternative.

Current estimates of the UK economy’s likely growth rate over the coming years – whatever the outcome of the Brexit negotiations – do not make for happy reading. The consensus is that expansion will average about 1.6% per annum over the coming period, but that it may well be lower if the Brexit pessimists turn out to be right.

This is going to be a major problem for Labour if the general election due in 2022 – and it may be earlier – returns a Labour government. This is because a combination of factors means that growth at only about 1.5% per annum will be insufficient to raise real incomes for most of the population, who are then going to face another period of income stagnation stretching ahead.

Why does growth at, say, 1.5% per annum not raise most people’s real incomes? It is because our population is increasing at about 0.6% per annum. Our huge balance of payments deficit sucks about an extra £30bn out of the UK income of every years. Wages and salaries as a proportion of total incomes is drifting down all the time as a result of the returns on capital rising faster than real wages. As a result, by the time those with the sharpest elbows have collared what little increase in total incomes there is nothing left for the rest of the population.

Can this problem be overcome by more redistributive taxations? Only to a very limited extent. Raising taxes on the rich may make people feel better but it won’t raise enough money to take the strain off public expenditure. The only way to do this is to raise taxation generally. Labour will very probably do this, which will help the public sector, but inevitably this will entail a damper on disposable incomes – always a major potential political headache.

The problem is that the UK economy is so unbalanced that the only real way to increase living standards is out of reach. This is to engineer significant rises in productivity. And why is productivity growth so slow? It is partly because we invest so little in our future – barely 16% of our annual GDP, compared to a world average of 26% and 45% in China – and partly because we spend very little money, especially net of depreciation, on the key types of investment which make a real difference to output per hour. These are technology, mechanisation and power – and very little else.

Here is a really telling example: 250 years ago about 80% of the UK population worked in agriculture. Now it is barely 2% as a result of changes such as combine harvesters replacing sickles, tractors instead of horses and far better plant varieties, all vastly increasing productivity. Compare this with the time it takes now to cut someone’s hair or to serve a meal compared to in 1770. Almost nothing has changed. Real output per hour is the same now as it was then.

A big part of the UK’s problem is that much of the high productivity gain investment we need finds its natural home in manufacturing, nearly all of it in the internationally traded private sector. It is, thus dependent on profitability which has been sadly lacking, mainly because the exchange rate has been too high for manufacturing to thrive. This is why the UK has deindustrialised more than any other advanced country with GDP from manufacturing falling from about 32% of national output as late as 1970 to less than 10% now. We have plenty of natural advantages in services – our geographical location, our language, our legal system, our universities and how we deploy our talent – but few of these advantages apply to making and selling things.

The key issue, then, if Labour is to run the economy successfully is how to get investment up, especially in the key areas which will make a big difference to productivity. How this might be done is likely to be a key component in the entries to a competition currently being run by the IPPR. A £100,000 prize is being offered for the best answer to the question “What would be your radical plan to force a step change in the quality and quantity of the UK’s economic growth?”

It will be really interesting to see whether the IPPR competition comes up with ideas which might lift the UK’s economic prospects up to somewhere near the world average growth rate, which is currently about 3.5% per annum. This would not solve all the next Labour government’s problems but it would hugely increase the chances of it being successful.