Falling Figures: UK Labor Productivity Drops in Q2 as Economy Nears Stagnation

Falling Figures: UK Labor Productivity Drops in Q2 as Economy Nears Stagnation
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REUTERS/ Luke MacGregorBusiness12:41 07.10.2017(updated 12:50 07.10.2017) Get short URL
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British output-per-hour-worked has declined amidst weak economic growth in the first half of the year, as robust hiring and inflation hinder overall economic efficiency, resulting in expectations of slower GDP growth for years to come.

Kristian Rouz — British labor productivity posted a decline after a brief resurgence in the second quarter, as real output per hours worked was hindered by gains in salaries and wages, and overall inflation. Whilst the Bank of England (BoE) might respond  to a surge in inflation with an interest rate hike, international ratings agencies warn such a move could impair overall GDP growth.

The Office for National Statistics (ONS) reports UK labor productivity declined by 0.3 percent in the three months leading up to June, having declined to its Q4 2007 level. This marks a decade of stagnant output per hours worked, albeit the British workers had performed slightly better in the late 2015 — early 2016 period, which was followed by a short period of productivity decline in the immediate aftermath of the Brexit decision.

In Q1 2017, UK labor productivity had inched just 0.1 percent higher.

Earlier this year, the Office for Budget Responsibility (OBR) had projected  productivity to grow at a sustainable pace of 0.5 percent in Q1, and by 0.3 percent in the second quarter. The rise in  UK exports and  weaker pound were expected to drive productivity and overall economic growth. However, the revaluation of the sterling thwarted these expectations.

“UK labor productivity continued to lag behind our international partners in 2016… analysis suggests that this lower level of productivity was evident across all industries, although the size of the gap varies considerably,” Philip Wales of the ONS says.

Manufacturing is the most efficient sector of the UK economy, as it gains significant traction from the expansion in exports. Nonetheless, the UK economy’s biggest sector — services — posted its worst productivity amidst the cooling of consumer demand.

HM Treasury says productivity projections will likely be lowered for the upcoming five years, affecting tax revenue expectations. This will affect the Treasury’s fiscal planning, and might result in tighter austerity policies, characterized by lower budget expenditures.

At the same time, the decline in labor productivity is explained by the robust pace of hiring, as UK unemployment is at a decades-low 4.6 percent, with a labor participation rate of 74.8 percent as of mid-Q2. At the same time, many sectors have reported the lack of a skilled workforce, hence the rising amount of wasted workhours.

“Given the uncertain economic and political outlook, it may be that several companies are trying to meet extra work by taking on labor rather than commit to investment,” Howard Archer of the EY Item Club says.

The abundance of low-skill and low-paying jobs supports the post-Brexit decline in unemployment rates, and the UK’s crackdown on mass migration is poised to further bolster the trend. This means years of low labor productivity ahead.

Some enterprises might opt to invest in technology rather than additional workforce. Automatization could indeed improve productivity figures, yet, this would come at the expense of the decline in the number of job openings.

Some experts say, including  the BoE’s Monetary Policy Committee, that  low productivity has a strong link to  low interest rates. With borrowing costs going up, unproductive companies will be forced to take meaningful steps toward improving their efficiency, which they are unwilling to do in the current environment as they can go deeper into debt at low costs to their operation.

The BoE is preparing to move rates up to 0.5% in November, but such a decision is already sparking controversy.

Whilst higher rates would curb inflation and boost overall economic  efficiency, more expensive credit would mean a slower pace of GDP expansion.

The UK economy is currently expanding at a modest pace of 1.8 percent per year as of late 2016, or 0.3 percent quarter-on-quarter in the March-June period. Meanwhile, its Purchasing Managers’ Index (PMI) rose to 53.6 in September from 53.2 the previous month, indicating subdued acceleration. The PMI represents 80 percent of the overall British economy, and its readings above 50 indicate expansion.

“The three PMI surveys put the economy on course for another subdued 0.3 percent expansion in the third quarter, but the fourth quarter could see even slower growth,” Chris Williamson of IHS Markit says.

If the BoE increases borrowing costs in November, the Q4 growth might slow, but the central bank’s governor Mark Carney is confident such a move would bring positive results. However, international rating agency S&P says weak wage growth would hinder economic expansion in a higher-rate environment.

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