There's Something Very Wrong With Britain's Recovery

UK ManufacturingEuropean CommissionU.K. boasts the lowest investment spend (as % of GDP) in the EU and it’s still falling

Britain’s economic recovery is leaving the country’s manufacturers behind, according to new European Commission figures. The stats show U.K. investment in equipment has fallen, even as the economy has picked up.Weak investment in the sector will concern British policymakers who have been looking to rebalance the economy toward exports.

UK Balance of paymentsONSRising UK imports continue to swamp export growth.

In recent years, the country has seen the balance of trade deficit increase despite the return of growth as imports have overtaken exports. The manufacturing sector has performed particularly poorly with the £10.2 billion ($16.6 billion) deficit on trade in goods in July marking the widest monthly deficit since April 2012.

Manufacturing was one of the worst hit sectors in Britain through the Great Recession, but it also bounced back more strongly than the economy as a whole. Although its overall share of total output has been in steady decline since the 1970s, falling from a peak of around 30% of the total to just over 10% in 2012, it still accounts for half of exports.

Given Britain’s extraordinarily poor productivity in recent years (giving rise to the productivity puzzle that has foxed economists) the fate of manufacturing should be an area of particular interest for policymakers. As the author of a parliamentary research briefing pointed out in June:

Productivity growth in the manufacturing sector has historically been stronger than in most other sectors of the economy due to its reliance on machinery and equipment, which leaves it better placed to benefit from improvements in technology.

What should concern Westminster is that the Commission’s figures show investment in that new technology falling well behind international peers. Failure to keep pace could result in the U.K. becoming less competitive and ultimately impact the future prospects for the sector. This threatens to exacerbate the trend of its declining importance.

UK services vs manufacturingPWCServices output is back around its pre-crisis level, while manufacturing languishes

Critics will rightly counter that in contrast to manufacturing, the services sector is looking healthier than ever and is likely to continue to grow in importance for the economy. This is true, but if a large percentage of services jobs are in non-tradable sectors they are likely to do little to improve the U.K.’s trade balance in the near future.

The worst news for policymakers is that the traditional pressure value for manufacturing no longer appears to have the intended effect. Despite a 20-25% decline in the value of sterling over the crisis, the cheaper relative prices of their goods did not appear to benefit manufacturers much. This suggests the shift from industries such as coal, steel, and engineering toward high-tech, advanced manufacturing with global supply chains has weakened the impact of currency devaluation.

There are no longer any easy answers for those looking to revive the fortunes of British manufacturing. Targeted investment and fostering the growth of new, advanced industries will be critical if its current decline is not to prove fatal.

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