The UK economy needs fundamental reform

Last week’s announcement by the Bank comes at a time when the UK’s growth forecasts are being downgraded and average real wages are falling. The MPC’s warning is solely a reflection of its mandate to control inflation: since the EU referendum vote, the depreciation of the pound has been pushing prices higher. Few other indicators would suggest that the economy is returning to a normal or sustainable pattern of growth.

Indeed, as the IPPR Commission on Economic Justice has clearly shown, the underlying condition of the UK economy is worryingly weak. The Commission’s Interim Report – published just before the MPC announcement – is a pretty comprehensive analysis of the UK’s economic performance, and it does not make happy reading. Across a whole range of measures – productivity, investment, research and development spending, trade – the UK performs significantly worse than its major competitors in Europe, and the trends are stagnant or going backwards.

Above all, the report shows, the UK economy is not generating rising earnings. One of the report’s starkest findings is that, over the last ten years, per capita GDP growth and average earnings have ‘decoupled’. We have had growth, but it has not translated into higher wages and salaries. The latter have now remained more or less flat for more than a decade, a trend which the Office of Budget Responsibility forecasts will continue at least for another four years. It means we are living through the longest period of earnings stagnation since the 1860s.

What has happened? The Commission’s report sets out a series of reasons for the UK’s underlying weakness.

First, our labour markets have become so ‘flexible’ (or casualised) that firms now have very little incentive to invest in new capital equipment. Why buy a machine when you can pay an unskilled worker by the hour? Second, notwithstanding some world class companies, British management in general appears to be weaker than its counterparts elsewhere, with a particularly poor record on both skills training and adoption of new technologies. Third, our corporate governance model and patterns of shareholding have driven excessively short-termist behaviour among investment funds and (some) company boards, leading to low rates of corporate investment and excessive rates of dividend payouts.

Fourth, an overvalued pound has allowed manufacturing to decline too far, undercutting our balance of trade. Fifth, our economy, infrastructure spending and system of economic governance are too centralised, overly focused on London and the Southeast at the expense of the rest of the country. And sixth, fiscal austerity has failed and monetary policy has been exhausted, leaving the UK with deficient demand and growth too dependent on household consumption fuelled by rising debt.

Given all this, the Commission’s conclusion is perhaps not surprising. The UK economy needs fundamental reform. Indeed its report goes further: it argues that the scale of reform needed is on a par with the Keynesian / Attlee reforms of the 1940s and the free market / Thatcher reforms of the 1980s. If we are to solve the longstanding structural weaknesses of the economy a serious shift in direction is required.

It is a bold statement, and deserves wider discussion. In its report the Commission sets out a long list of policy areas it is now looking at as it prepares its final report for next year. It welcomes contributions from anyone who wishes to engage in the debate.

Michael Jacobs is Director of the IPPR Commission on Economic Justice. He can be followed on Twitter @michaelujacobs.

The APPG on Inclusive Growth is the parliamentary partner of the IPPR Commission on Economic Justice.

When Michael presented the report in parliament last week, he sat down with Tom Kibasi, Director of the IPPR, and Liam Byrne MP, the co-chair of the APPG, to talk about it more.