Strong hiring in the UK since the financial crisis is puzzling. Here’s why hiring rose but productivity fell.
The United Kingdom stands out as having a job rich but productivity poor recovery after the financial crisis.
Hours worked growth in the period after the financial crisis was about three times the average rate of our sample of advanced economies. UK firms hired labour across regions and sectors, rather than focusing on investment in capital or improving efficiency. This emphasis on employment over investment acted as a broad-based drag on productivity growth.
Why did UK firms add hours at such a high rate while demand growth recovered only moderately? We believe explaining this “employment puzzle” is key to understanding the UK productivity growth slowdown.
Two million new employees entered the workforce between 2010 and 2015. While growth in employment was strong across all age groups, it was particularly noticeable among the young and the old. Sixty percent of jobs growth came from people who were 29 and under or 55 and over. From 2010–15, employment grew 7 percent for those who were 29 and under and 15 percent for those who were 55 and over versus 5 percent for those aged 30–54.¹
Among people aged 15 to 24 and 25 to 34, the UK employment rates are now the highest in our sample of countries, at 54 and 82 percent, respectively.² Indeed, UK employment rates for people under 34 years old are above the rates in both Sweden and Germany, which have some of the highest employment rates in Europe.
Interestingly, we also find that among the young and old, literacy and numeracy skills tend to be lower than for 30-to 54-year-olds, potentially indicating the need for further skilling going forward. While changes in labour quality did not act as a drag on productivity growth between the pre-and post-crisis periods, the basic skill levels of the workforce can play a role in impacting labour productivity levels. In the context of future technological transitions, ensuring the broad population has the appropriate skills will be an important area for the United Kingdom to focus on as it looks to boost productivity.
These labour supply dynamics may have been influenced by policy initiatives such as new apprenticeships, an increase in the state pension age, and rising university tuition fees.³ The number of apprenticeship starts in England increased significantly, from 240,000 in 2008 to 510,000 in 2012.⁴ Raising the university fee cap to £9,000 in 2012 encouraged more young people into the workforce post-crisis. That year, 52,000 fewer students applied to UK universities, a cohort dominated by those under the age of 25.⁵ Although growth in applications has continued since then, it has been slower, potentially linked to increased preferences to join the labour force instead.
In addition, from 2010 to 2015, the number of people 55 and over in the labour force increased by about 800,000. Older people are working longer. Partly, that may have to do with an increase in the state pension age for women to 65, although we find the trend affects men as well as women.
Labour over capital
Low growth in wages reinforced the attractiveness of labour over capital in an environment of labour market flexibility and heightened uncertainty. In such circumstances, firms tend to meet output growth by hiring new workers or increasing the hours of existing workers. This is because investment in capital goods is harder to reverse than adding workers.⁶ New plant equipment, for example, cannot be returned to the seller if conditions change.
This phenomenon was echoed in our interviews with corporate leaders. One manufacturing executive explained that labour market flexibility typically meant that capital investment plans would be put on hold during periods of heightened uncertainty.
Brexit and uncertainty
We find that uncertainty has increased significantly in the United Kingdom, first in 2010 due to the continuing political and economic crises in the European Union, and then following the Brexit vote. From surveys of European business leaders, we have found that uncertainty is the key factor holding back investment in Europe. UK firms stand out in those surveys as being particularly pessimistic about the investment outlook and concerned about regulatory uncertainty. About 20 percent of UK companies cited various forms of uncertainty as a main reason for not investing.⁸
The United Kingdom has the potential for at least 2 percent productivity growth a year over the next ten years, if policy makers and companies provide supportive action. Read how in our new discussion paper, “Solving the United Kingdom’s productivity puzzle in a digital age.”
- Although employment growth for the older cohort in part reflects a larger number of older workers due to population ageing, the employment rate also grew. For example, the employment rate for 65–80-year-olds grew from 10 to 13 percent over the period.
- Age bands may differ throughout the paper because we use ONS data for our UK employment analysis and OECD data for country comparisons.
- Another policy change that may have encouraged an increase in the supply of low income workers is the strong increase of tax credits relative to GDP since the early 2000s, mainly due to an extension of the number of eligible people for working tax credit and more generous child tax credits. Because the increased spending on tax credits pre-dated the financial crisis, this is unlikely to explain the productivity slowdown, although it is another possible driver of the United Kingdom’s high employment rate.
- Andy Powell, “Apprenticeship statistics for England,” House of Commons Library, January 2018.
- Paul Bolton, “Entrants to higher education”, House of Commons Library, October 2013.
- Nicholas Bloom, “The impact of uncertainty shocks”, Econometrica, Volume 77, 2009.
- McKinsey Global Institute Business Survey, 2017