Forging Ahead, Falling Behind and Fighting Back Page 9
The structure of manufacturing did see an increase in the weight of new industries at the expense of the old staples. Between the Censuses of Production of 1924 and 1935, these new industries experienced considerably faster labour productivity growth, 3.1 per cent per year compared with 1.3 per cent per year and their share of productivity growth in manufacturing amounted to 33.9 per cent.8 But overall the impact of this structural change on growth performance was quite modest. Moreover, productivity levels in sectors such as electrical engineering and motor vehicles were further behind those in the United States than was the case for the manufacturing sector as a whole. To suggest that United Kingdom productivity performance in the interwar period was transformed by the contribution of new industries is unrealistic.
Supply-side policy became somewhat more interventionist, especially in the 1930s; although the scale of government intervention was still quite limited compared with the years after the Second World War, it was significantly greater than before 1914. There was more scope, therefore, for errors of commission as well as of omission. It is difficult to see the new stance as positive for medium-term growth outcomes. Industrial policy was defensive and protected declining industries without forcing the exit of the inefficient. The overall implication of the move to a ‘managed economy’ was a major retreat from competition in product markets which took several decades fully to reverse, and which would prove a serious impediment to productivity performance.
To Richardson (1965) and the ‘over-commitment school’, the rebalancing of the manufacturing sector towards new industries in the interwar period seemed at last to have ended the unfortunate legacy of the early start. If, however, the problems of the early start were transmitted through institutional channels and constraints on policy, these were intensified rather than eliminated. The opportunity to reform industrial relations while unions were relatively weak was not taken up, the likelihood of a damaging separation of ownership and control in the corporate governance of large companies had increased, and the new political imperative of never again repeating the unemployment experience of outer Britain was about to prove a significant handicap in the design of supply-side policies.
1 Taking the average of estimates for 1913 and 1950 for ages 15–64 reported by Broadberry (2003) gives 0.10 years for the United Kingdom and 0.32 years for the USA.
2 It quickly became Keynesian orthodoxy that rearmament had made a big contribution to cutting unemployment. Bretherton et al. (1941) estimated that unemployment in 1938 would have been 1.2 million higher in the absence of rearmament. Later estimates by Thomas (1983) reduced this impact to about 1million (with an addition of about 6 per cent to GDP) based on a government-expenditure multiplier of 1.6. More recent research by Crafts and Mills (2013) suggests that the multiplier was no more than 0.8 and that Thomas’ estimates are about twice the true impact.
3 Using a standard decomposition based on Nordhaus (1972), Broadberry and Crafts (1990) reported that structural change added 0.02 percentage points to manufacturing productivity growth between 1924 and 1935.
4 This would not have been the case had the Bank of England run monetary policy. Governor Norman plainly disliked cheap money and regarded it as a temporary expedient (Howson, 1975, p. 95).
5 On the basis of agreements registered under the 1956 legislation, Broadberry and Crafts (2001) estimated that 33.8 per cent of manufacturing was definitely cartelized in the late 1950s and only 27.4 per cent was completely free of any attempt at cartelization.
6 Even so, already in the late 1930s and early 1940s, Keynesian economists (notably James Meade) worried about the inflationary consequences of using demand management to reduce unemployment to very low levels, since this would imply wage-push inflation. Some kind of ‘wages policy’ would be required to deal with this issue (Jones, 1987). In other words, these economists were aware that Keynesian policies would probably entail trying to achieve unemployment rates below the NAIRU.
7 According to the estimates in Hannah (1983), 3,298 firms with a total value of about £550 million disappeared through merger in the 1920s and 1930s.
8 Based on an average of 1924 and 1935 weights, see Table 4.6.
5
Falling Behind in the ‘Golden Age’
The period 1950–1973 is conventionally known as the ‘golden age’ of European economic growth. This was a halcyon period of rapid catch-up growth during which western European economies rapidly reduced the large productivity gap which the United States had established by 1950. Abramovitz and David (1996) suggested European catch-up was based on enhanced ‘social capability’ and improved ‘technological congruence’ compared with the interwar period. This meant there was a much greater opportunity for catch-up and European countries were better able to take advantage. During this era of strong β-convergence, which came to an end with the first oil crisis, both real per person and real GDP per hour worked (labour productivity) grew much faster in most European countries than in the United States.
During these years the United Kingdom experienced its fastest ever economic growth but at the same time relative economic decline materialized at a rapid rate vis-à-vis its European peer group such that, by the end of the period it had been overtaken by seven other countries in terms of real GDP per person, and by nine others in terms of labour productivity. The United Kingdom experienced relatively slow growth which is only partly explained by its relatively high income level in 1950. A prima facie case for British ‘growth failure’ is provided by France and West Germany not just catching up, but overtaking the United Kingdom by 1973 (Table 5.1).
Table 5.1 Real GDP/person ($GK1990)
France West Germany UK USA
1950 5186 4281 6939 9561
1973 12824 13152 12025 16689
Source: Maddison (2010).
The United Kingdom economic environment continued to be characterized by the retreat from globalization and competition which had developed during the interwar period but economic policy became more ambitious and interventionist as the centre of the political spectrum shifted to the left. This was the era of Beveridge and Keynes in a period which was notable for reduced income inequality and low unemployment. In the early 1960s, in the context of growing concern about comparative economic performance, governments began to experiment with a variety of policies to improve growth outcomes, but in the event, this stopped short of a serious attempt to reform the institutional legacy. Accordingly, the historiography of this period focuses on errors of commission by policymakers.
Several questions arise from this discussion which this chapter will try to answer. How big was the United Kingdom’s growth failure during the Golden Age? What were the most important policy mistakes? Did the early start play an important role in exacerbating relative economic decline in these years?
5.1 Growth Performance in a European Context
The Golden Age was a period of macroeconomic stability, notable for the relative absence of financial crises, which followed the traumas of two world wars and the Great Depression. Some have seen this as an episode of fast growth based on a reversion to the pre-1914 trend line (Janossy, 1969) but econometric analysis shows that it was clearly more than this (Mills and Crafts, 2000). That said, countries with relatively large scope for post-war reconstruction such as West Germany, found that this stimulated their growth in the 1950s (Temin, 2002). TFP growth was very rapid during the Golden Age especially in countries with low initial productivity levels. This was based to a large extent on reductions in inefficiency (Jerzmanowski, 2007), especially based on the structural change associated with the shift of labour out of agriculture (Crafts and Toniolo, 2008). At the same time, technology transfer speeded up as American technology became more cost effective in European conditions, and obstacles to technology transfer were reduced (Nelson and Wright, 1992). European growth was accelerated in these years by trade liberalization which acted to raise the long-run income level.1 The total long-term effect of reductions in trade protection, includi
ng reduction of external tariffs, raised European income levels by nearly 20 per cent by the mid-1970s according to estimates by Badinger (2005). Membership of the European Economic Community (EEC) may have raised income levels of the original six countries by as much as 8 per cent by 1970 (Eichengreen and Boltho, 2008).
In terms of Figure 1.1, European countries had seen substantial shifts in both the Schumpeter and Solow lines and were now characterized by significantly higher λ and s. This is reflected in the shares of investment and R & D expenditure in GDP recorded in Table 5.2. R & D expenditure in the United Kingdom was relatively high and, notably, business-financed R & D was still a larger share of GDP than in France or West Germany in 1967. The weak point was the contribution that this made to productivity growth which was negligible compared with those countries.2
Table 5.2 Investment in broad capital, 1970
France West Germany UK USA
Non-residential investment (%GDP) 16.3 19.6 14.6 13.5
Years of schooling, ages 15–64 10.4 11.1 10.3 11.1
Higher level qualifications (% workers) 5.6 4.2 8.3 18.7
Intermediate level qualifications (% workers) 54.9 61.2 28.2 17.4
R & D expenditure (%GDP) 1.9 2.1 2.2 2.6
Note: Investment is average of 1960–1973, qualifications data are for 1979.
Sources: Investment from Maddison (1992), schooling from Morrison and Murtin (2009), qualifications from Broadberry and O’Mahony (2007) and R & D from OECD (1991)
Years of schooling were now much higher, albeit slightly lower in 1970 in the United Kingdom than in its peer group (Table 5.2). A crude indicator of the quality of schooling can be obtained from standardized international test scores in mathematics and science, where in the mid-1960s the United Kingdom was a little below France and Germany, but ahead of the United States (Woessmann, 2016). Empirical evidence predicts that the shortfall compared with West Germany would have had a small adverse impact on growth (Hanushek and Woessmann, 2012).3 Labour force qualifications increased markedly after the Second World War. In 1950, 15.1 per cent of the German labour force had intermediate level or above, whereas at the end of the 1970s this figure had risen to 65.4 per cent. The United Kingdom improved rather less rapidly – the comparable figures were 11.7 per cent in 1950 and 28.6 per cent in the late 1970s. As is reported in Table 5.3, the implication is that in 1973 lower labour quality was an important reason for lower labour productivity in the United Kingdom than in West Germany, although this had not been the case in either 1910 or 1950.
Table 5.3 Contributions to labour productivity gap (percentage points)
Labour quality Capital intensity TFP Total
USA/UK
1910 −1.9 30.1 −10.5 17.7
1950 0.3 20.9 45.7 66.9
1973 1.9 10.8 39.6 52.3
Germany/UK
1910 −0.1 0.2 −24.6 −24.5
1950 −0.6 −2.6 −22.6 −25.6
1973 9.5 5.4 −0.9 14.0
Note: Contributions are derived using a standard growth accounting formula.
Source: Broadberry and O’Mahony (2007).
In Table 5.4 we see that, on a growth accounting basis, both France and West Germany achieved contributions to labour productivity growth from both capital deepening and TFP growth which were way ahead of those in the United Kingdom and USA prior to the Second World War (cf. Tables 3.3 and 4.2). The United Kingdom also saw a major increase in these sources of growth to new highs by its own standards, but not to the same extent as leading continental European economies. Relatively slow productivity growth compared with France and West Germany was pervasive across the economy as can be seen in Table 5.5.
Table 5.4 Contributions to labour productivity growth, 1950–1973 (% per year)
Education Capital per hour worked TFP Labour productivity growth
France 0.4 1.7 3.1 5.2
West Germany 0.4 2.5 2.5 5.4
UK 0.5 1.5 1.4 3.4
USA 0.3 0.9 1.5 2.7
Note: Estimates are for the market sector.
Sources: O’Mahony (1999) and education contributions derived from Morrisson and Murtin (2009).
Table 5.5 Crude TFP growth in major sectors, 1950–1973 (% per year)
France West Germany UK USA
Agriculture 3.49 3.96 2.53 0.82
Mining –0.36 2.28 0.46 0.97
Manufacturing 4.22 4.12 3.28 1.95
Construction 2.67 1.86 1.03 0.52
Utilities 7.17 3.33 3.36 3.45
Transport and communications 4.40 3.92 2.31 2.26
Distributive trades 1.75 1.79 0.78 1.02
Market sector 3.49 2.92 1.87 1.77
GDP 3.10 3.76 1.74 1.49
Source: O’Mahony (1999).
During these years Britain experienced its fastest ever economic growth but at the same time relative economic decline proceeded at a rapid rate vis-à-vis its European peer group such that, by the end of the period Britain had been overtaken by seven other countries in terms of real GDP per person and by nine others in terms of labour productivity. United Kingdom growth was slower by at least 0.7 percentage points per year compared with any other country, including those who started the period with similar or higher income levels. The proximate reasons for relatively slow labour productivity growth were weak capital per worker and TFP growth compared with more successful economies like West Germany. Maddison (1996) attempted a decomposition of the sources of TFP growth and he concluded that the shortfall in Britain could not be explained away by lower scope for catch-up or the structure of the economy, although clearly rapid TFP growth in countries like West Germany did reflect reconstruction, reductions in the inefficient allocation of resources and lower initial productivity (Temin, 2002).
Although slower growth can be partly explained by virtue of a higher initial level of income and productivity, being overtaken by France and West Germany is a clear indicator of avoidable failure. This is confirmed by an unconditional growth regression reported by Crafts and Toniolo (2008) for a cross-section of regions within European countries in 1950–1973, where growth of real GDP per person is related to the level of GDP in 1950 as a percentage of that in the United States and country dummy variables:
where the omitted-country dummy variable is Netherlands. This suggests that there was a growth failure of about 0.8 percentage points per year in the United Kingdom cumulating to an income shortfall of almost 20 per cent by 1973.4
5.2 The Eichengreen Hypothesis
The most striking hypothesis to explain enhanced social capability in post-war Western Europe is that of Eichengreen (1996) who argued that high investment rates which allowed successful exploitation of catch-up opportunities were facilitated by successful social contracts which sustained wage moderation by workers in return for high investment by firms. These ‘corporatist’ arrangements provided institutions to monitor capitalists’ compliance and centralized wage bargaining which protected high investment firms and prevented free-riding by subsets of workers. In addition, the state provided ‘bonds’ that would be jeopardized if labour defected on the agreements in the form of an expanded welfare state. The central foundation of a cooperative equilibrium with high investment and wage moderation is that both sides are patient and take a long-term view of the payoffs to their decisions (cf. Appendix 1) and the implication in terms of Figure 1.1 is a significant upward shift of the Solow line.
It is certainly true that corporatist industrial relations were quite widespread in the Golden Age; Crouch (1993) puts Austria, Belgium, Netherlands, Switzerland, West Germany and the Scandinavian economies in this category. In a growth-regression study, Gilmore (2009) found that coordinated wage bargaining may have had positive effects on investment and growth prior to 1975 but not subsequently.5 The wage moderation/high investment equilibrium was fragile and it did not generally survive the turbulence of the 1970s, a time when union militancy and union power rose dramatically, as did labour’s share of value added, and the rewards for patience fell in conditions of greate
r capital mobility, floating exchange rates and greater employment protection. At the same time, the corporatist model of economic growth was becoming less appropriate by the 1970s in economies which had markedly reduced the productivity gap with the United States and now needed to become more innovative and less reliant on technology transfer, as Eichengreen (2007) himself pointed out.
The key point is that coordinated market economies (CMEs) were well positioned for rapid catch-up growth during the Golden Age and more likely to sustain a cooperative equilibrium between capital and labour. Hall and Soskice (2001) describe the archetypal CME as having a set of complementary institutions that deliver patient capital and wage moderation together with high levels of investment in specific human capital in firms and incremental innovation. The basis for this is bank finance with block holdings of shares, corporatist industrial relations, strong coordination of employers and cooperative inter-firm relations. This can be described as a system of ‘inside control’. By contrast, the complementary institutions of the archetypal liberal market economy (LME) feature equity finance with diffuse shareholdings, general human capital formation in colleges, strong competition between firms and deregulated, flexible labour markets. This is a system of ‘outside control’ with much greater asymmetry of information between managers and owners, with a tendency to prefer early payoffs to investment. The advantages of these arrangements are in radical innovation and rapid adjustment to new circumstances.