It is no secret that the UK economy has a productivity problem. What may come as a surprise is that the retail sector has actually fared better than most.

However, with the National Living Wage now adding to other mounting costs, retailers still need to do their bit to boost productivity in order to protect their margins.

The so-called “productivity puzzle” has been the subject of much debate among economists over recent years. Indeed, explaining why the UK’s overall output per worker is only 2.5% above its pre-crisis peak, and some 15% below where it would have been had it continued to grow at its pre-crisis trend rate, is not easy.

Explaining why the UK’s overall output per worker is only 2.5% above its pre-crisis peak, and some 15% below where it would have been had it continued to grow at its pre-crisis trend rate, is not easy

Paul Hollingsworth, Capital Economics

In reality, there are probably a number of reasons why productivity growth has been so poor. First, bank lending was weak, so firms couldn’t get access to the finance they needed to expand. Second, low wage growth during and after the crisis meant that firms were able to hold onto more workers than they may otherwise have done. Third, investment was cut sharply during the recession, and remained weak in the early stages of the recovery, so we’re having to play catch-up now. Fourth, the low interest rate environment has allowed some struggling firms to survive, preventing financial resources from being diverted towards the most productive firms. And there is also a chance that productivity is being mismeasured, with the effect of new technologies being under-recorded in our national statistics.

Into perspective

10%

The increase in retail sector productivity from its pre-crisis level

That said, the retail sector’s productivity performance has been better than it is often given credit for. Let’s put it into perspective. The chart below shows the level of productivity (output per worker) rebased such that it is equal to 100 in Q1 2007. It shows that the fall in productivity was more severe for the wholesale and retail sector (for which data is available) than for the economy as a whole during the crisis. But when the consumer recovery really got going from around 2013 onwards, productivity in the retail sector began to pick up. In fact it is now almost 10% above its pre-crisis level.

Productivity graph

Productivity graph

But if that is the case, why does the anecdotal evidence suggest that productivity is still a big issue for retailers? I think there are three things at play here. First, while productivity growth has been strong recently, it has not actually caught up any of the ground lost during the crisis. As the following chart shows, the level of productivity in the wholesale and retail sector is still well below where it would have been if productivity had continued to grow at its pre-crisis rate. So we need to see a few years of above-trend growth in productivity in order to close this gap.

Productivity graph2

Productivity graph2

The other issue is that the measure of productivity is based on the volume of retail sales. But given intense competition on the high street and heavy discounting, retailers have been suffering from much weaker growth in sales values over recent years. And third, retail is one of the sectors that is facing mounting cost pressures. After all, it is one of the most exposed sectors to the new National Living Wage.

The upshot is that we shouldn’t be too downbeat on the retail sector’s productivity performance. After all, it has done better than most

Paul Hollingsworth, Capital Economics

While there are some ways to mitigate this, either through reducing headcounts, employing more staff aged under 25 (to whom the National Living Wage does not apply) or cutting other benefits, increasing productivity significantly will be more sustainable and more effective.

The upshot is that we shouldn’t be too downbeat on the retail sector’s productivity performance. After all, it has done better than most. Nonetheless, the sector still faces challenges, and boosting productivity further will be key to solving these.

  • Paul Hollingsworth, UK economist, Capital Economics