We need a savings and investment revolution to solve the productivity puzzle

Unemployment peaked at 8.4pc in 2011 compared to nearly 11pc after the smaller 1990s recession. The dark side of that smaller than expected rise in unemployment is that employment has held up well compared to output, so productivity has not changed since 2007. Advanced countries would normally see it grow by about 1¾ pc a year.

That relatively good employment performance may, of course, be one reason why the Chancellor adopted employment as a new target this week. The recent past suggests it might be easier to achieve than closing the budget deficit.

For me, the puzzle can be explained in two ways. First, British productivity had been rising much faster than in other countries before the crisis. That was just a leverage-driven illusion that has now faded. Tight credit following the financial crisis can take care of the rest of the gap. Banks kept zombie firms alive and denied credit to innovative start ups.

The important point is that those headwinds are easing. Banks are not restricting credit to bright start-ups as much now, and the years of stagnant productivity means excesses of the pre-crisis years have been worked off. So productivity growth is accelerating. It hit 1pc in January, based on NIESR GDP estimates.

“We are turning Japanese” is an argument I often hear for why the UK is doomed to stagnation. Yet Japan had solid productivity growth before 2007. Their growth problem is mainly that the number of workers is falling because the population is aging and there is little immigration.

With workers' efficiency increasing, pay growth is also accelerating, sustainably. Average private sector pay rose 2.2pc in the year to January. Firms newly convinced that the recovery will be sustained are pulling the trigger on investment projects. Even if that higher investment only means replacing clapped out equipment, it will still boost workers’ output.

Of course, the absolute level of British productivity lags well behind other countries. One of the reasons is that we ask our workers to toil away with much less equipment than others do.

The car sector is a good example of how productive British employees can be when they have the right equipment. Car sector output per hour has risen 11pc in the past year and is nearly 40pc higher than in early 2010.

I am painting with a broad brush here. There are plenty of competitive UK companies. But, in the round, the UK does not compare favourably with other countries.

While business investment is rising, it is still very low, relative to other countries. So there is little prospect of the UK closing the equipment gap soon. But that is very different from saying the UK cannot grow at all. Other countries are not standing still, so just adopting the latest innovations means rising UK productivity, helping to sustain the recovery.

Indeed, looking at from another angle, that gap to other countries represents a huge opportunity. If Britain exploited cutting edge technology as well as other countries, and invested as much, we could catch up. That would mean very rapid growth indeed, which has the added benefit of solving the fiscal problems at a stroke.

Britain went through a huge revolution in the 1980s, freeing up labour markets. Now we need another one to shift UK culture towards saving and investing on the same scale as other countries. The measures taken by the authorities so far are small, relative to the size of that task.

But that long-term problem, while a source of regret, does not mean the UK recovery has to be unsustainable. What it does mean is that the UK cannot grow as strongly as it could with more long-term thinking. It means the current account deficit will eventually have to be closed through slower demand growth at home than other countries are experiencing, rather than closing the productivity gap.

That does not mean calamity, provided the Bank of England takes early action to keep economic growth at manageable rates of around 2.5pc a year.

Rob Wood is chief UK Economist at Berenberg Bank. He is on Twitter @robw00d

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