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Wednesday, April 02, 2003

In the Guardian Polly Toynbee coins a very odd syllogism:

It remains a perplexing problem that UK productivity is still below that of most of its competitors, a problem for both government and business. Patricia Hewitt was bringing them yet more help, rolling out the government's manufacturing advisory service so companies can get an intensive 10 day consultancy that has been phenomenally successful. Firms using the service so far have seen an average increase in value of £85,000, with a 30% improvement in productivity.

The argument for how regulation can improve productivity was recently powerfully put by an unlikely proponent: Michael Heseltine - the man who once promised a bonfire of regulations. He said that, despite Germany's recent stumble, "a great deal of German productivity gains came because their government imposed ever higher standards on manufacturing which could only be paid for by improved productivity. You cannot live in a civilised society without regulation".

France has at least 20% higher productivity - despite (or because of?) its "inflexible" and "over-regulated" employment laws. So the cause of British low productivity may be found in low regulation, low pay, low valuation of a disposable workforce. It was lack of regulation that created the monstrous US stock market bubble, allowing an Enron to be audited by an Andersen in a feral capitalism that has led to vast damage to the global economy. Capitalism only thrives when tightly regulated.

Now, I could argue, AtlanticBlog style, that she conveniently ignores the US productivity rate, and she does. Her argument, though, is not implausible. Northwestern's Robert Gordon, in a recent paper, writes about European regulation:

A classic example is the French minimum wage, which boost productivity in restaurants by making it too expensive to hire bus boys and force capital-labor substitution by eliminating such American anachronisms as parking lot attendants and grocery baggers. In Germany stringent shop-closing hours, only recently relaxed, force consumers to do their shopping in a concentrated period, thus boosting retail productivity. In this and other ways, European institutions favor workers and American institutions favor consumers, explaining at least part of the substantially more even distribution of income in Europe.

Gordon goes on to note, though, that "as a negative counterpart, making labor expensive boosts the unemployment rate and accounts for part of the low level of hours per capita" seen in Europe. The Europeans here made a tradeoff--higher productiity for higher unemployment--that Toynbee, an advocate of a high minimum wage, does not seem to recognise. The net gain of the extra productivity growth is "spent".

Britain, as usual, is a halfway-house between the US and continental Europe. Its labour force works on average the highest number of hours, yet it's productivity still lags behind. A 1998 McKinsey Global Institute study notes that "Despite the labor and capital market reforms of the past 20 years, output per capita in the market sector remains almost 40 percent behind that of the United States, and 20 percent behind that of West[ern] Germany." There is an ongoing debate as to why that is.

Britain echoes Gordon's point in that, over the past 25 years, it has moved towards an American model of regulation, at least insofar as market regulation favours consumers more than workers. Deregulation of supermarkets, for instance, has led to concentration, with five major national chains, but it has also lowered prices by an average of 9 percent in real terms, while improving the range of consumer choice. The head of the energy regulator, Callum McCarthy, according to the Financial Times

engineered a 40 per cent cut in power prices while ending price controls on household gas and electricity sales. More than a third of consumers have switched suppliers, yet the lights have stayed on - in contrast to California, another deregulated market.

Mr McCarthy has been willing to challenge vested interests. He upset the generators - and some of the banks that had lent them money - by creating a competitive wholesale power market. He stood up to pressure from Brian Wilson, the energy minister who wanted protection for nuclear power. And he resisted calls to tackle energy poverty - pointing out that his competitive retail market had lowered prices for all consumers.

There is a lot of resistance to these measures. The New Economics Foundation, a leftish think-tank, lobbied successfully to prevent a proposed deregulation of pharmacies; as I pointed out back in January, there are commentators arguing that cheap food is bad, and that supermarkets should be curtaile for the social good. If regulation here increases productivity, it would be more of an "unintended consequence" than deliberate policy.

In the long run, though, improving competition may be the best source of productivity improvment. As the McKinsey study concludes:

Conventional wisdom blames the United Kingdom's underperformance on the limited educational attainment and low skill level of its workforce, the scale penalty of operating in a relatively small market, and the capital market pressures that make companies reluctant to invest in long-term productivity-enhancing technologies. Undoubtedly, these things play a part. But our work shows that the real cause of the United Kingdom's low productivity can be traced to regulations that stifle competition and innovation in product markets.

Indeed, it is these regulations that ultimately lie behind the conventional explanations for the economy's ills. Low capital investment is largely the result of the lack of opportunities for profitable investment; new retail or hotel formats, for instance, may suffer from a dearth of sites on which to build. Low skills, meanwhile, can be ascribed to companies' limited exposure to global best practices in the organization of work processes; a number of best-practice foreign operators have shown that it is perfectly possible to achieve near-benchmark levels of productivity in the United Kingdom with a local workforce.

"Capitalism" does not require more regulation, but less. That is what the industrialists are saying, and Miss Toynbee would do well to pay closer attention as to why.