UK: The odds on building up manufacturing.

UK: The odds on building up manufacturing. - Now that backing industry has top priority, there is hope at last.

by David Smith.
Last Updated: 31 Aug 2010

Now that backing industry has top priority, there is hope at last.

What has been the basic problem afflicting the UK economy for the past 40 years? It is that whenever a solid rate of economic growth appears to be establishing itself as the norm, we get pulled up sharp, by inflation, the balance of payments or, usually, both. For every two steps forward we take, in comparison with competitor countries, at least one-and-a-half back.

The most telling recent example of this was in 1987-8. We remember the late 1980s now for the consumer boom and for the madness of the housing and commercial property markets. It is easy to forget, however, that the period was one of great hope for industry, a time when, after years in the slow lane, Britain's manufacturers appeared to be catching up fast. Indeed, for the 1980s as a whole, manufacturing productivity grew at an annual average 4.7%, compared with 4.1% for America, 3.2% Japan, 3.1% France, 2.8% Italy, 2.7% Canada and 2.3% (West) Germany.

Heady days. But are they now as lost in the mists of nostalgia like traffic-free motoring in the 1950s, or Carnaby Street in the 1960s? As growth gave way to the longest recession since the 1930s, the idea of a productivity miracle in UK industry turned into almost a music hall joke.

Not that this was entirely fair. Companies were quick to respond to the downturn by cutting their workforces, unlike in previous cycles where they tended to hoard labour in the hope that what they were seeing was only temporary. Such speedy action - some call it a new ruthlessness - did mean that throughout the recession productivity held up better than previous experience might have suggested. Manufacturing productivity grew by 0.9% in l991, 0.5% in 1990 and 5% last year, albeit alongside falling or stagnant output. Whole economy productivity dipped by a modest 0.1% in 1990, but rose 0.5% in 1991 and by just over 2% last year. A rising productivity story, though, is harder to tell if it is in the context of falling output and sharply rising unemployment.

Good though industry was in maintaining productivity growth during the recession, the period still represented a setback, both in comparison with long-term productivity trends and the performance of other countries. A period of catching-up will be needed to put industry back on the long-term productivity growth trend for manufacturing of 3 to 4%, and to close the gap with competitors. As the Treasury, using 1990 data, noted in its Bulletin last year: "Despite the significant catching up during the 1980s, the level of hourly productivity in UK manufacturing is still substantially lower than that in France and perhaps only one half of that in the United States."

These figures were not, predictably, quoted in a recent Conservative research department document, "The Performance of British Manufacturing", to which the Chancellor contributed an introduction. Indeed, among a series of claims which caused exasperation, the report said: "When calculated on an hourly basis ... it is questionable how much of a productivity gap remains." The basic purpose of the document, lost among some highly selective statistics and astonishing claims, was to suggest that the supply-side gains in manufacturing in the '80s have not all been blown away by the recession. Can this be true?

The answer is a vital one. It will mean the difference between virtuous and vicious circles. The virtuous circle is one of strong productivity growth, competitive industry and a gradual elimination of the manufacturing trade gap that developed even alongside the productivity gains of the '80s, and which persisted during the recession. The vicious circle is the reverse of all these things so that industry is condemned to low growth and declining market share and the economy is destined to be pulled up sharply whenever domestic demand is perky enough to threaten the balance of payments.

Unlike, say, in the mid-'80s, when there was a strong body of opinion, including Nigel Lawson, the then Chancellor, which suggested that manufacturing did not matter too much, there is now a consensus which believes that, to get on to the virtuous circle and stay there, Britain needs an expanded manufacturing base.

This means anticipating future trends in demand in consumer, component and capital goods, and ensuring that Britain has the product range capable of supplying an increasing proportion of that demand (and at the same time maintaining a rising share of export markets). It is not enough to rely on existing surplus capacity. Apart from the fact that quite a high proportion of it has been destroyed in the recession - Phillips and Drew, for example, suggest that effective capacity utilisation, even at a time of weak output, is higher than surveys suggest - an important concept is that of appropriate capacity. Much of Britain's apparent spare industrial capacity is almost certainly in product areas where, even in the upturn, demand may not rise by very much.

Some appropriate capacity is being created. The example of the Japanese motor manufacturers, Nissan and Toyota, has been overworked, but it represents a step in the right direction - as long as it is not exactly matched by retrenchment by Ford and the other, more traditional UK-based motor manufacturers. But Japanese transplant production in Britain can never be the whole story. Fortunately, there are reasons to believe that a general expansion in the manufacturing base can occur or, at least, that conditions favour it.

The first reason, clearly, is sterling's post-ERM devaluation. This has given UK industry a clear competitive boost which, given the state of the labour market, should not be lost in excessive pay settlements. Indeed, the two-year ERM experiment has parallels with the "sado-monetarism" of the l979-81 period. The earlier episode ensured that, for most of the 1980s, a depreciating pound was combined with relatively subdued wage pressures. It could happen again.

Secondly, the revival of industry is now an official priority, a prospect that many industrialists might shudder at, but which did provide for the temporary boost (from 25 to 40% in capital allowances in the Autumn Statement last November). One hopes that this temporary measure will become permanent and that the Chancellor means what he says when he pledges to take every economic decision with regard to its effects on industry.

Finally, the decline in the fortunes of service industries, and particularly financial services, could work to the benefit of manufacturing. Industry has long had to battle in vain to attract the best talent, against the rival attractions of service sector and government occupations.

The revival of manufacturing will not happen overnight and, for years to come, Britain will have an uncomfortably large trade deficit on manufactured goods. But it is wrong to be too gloomy.

David Smith is economics editor of The Sunday Times.

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