One of the most alarming articles I’ve read this month was by the Cambridge-based economist Ha-Joon Chang. He’s the author of 23 Things You Didn’t Know About Capitalism, and has a sharp eye for how markets and economies work in practice. Anyway, he noted that despite a substantial devaluation of the pound since the financial crisis, both service exports and manufacturing exports had also fallen. This isn’t how devaluation is supposed to work.

Here’s the relevant passage from his article, worth quoting at length:

Compared with its height in 2007, the pound has been devalued about 30% against the dollar, 50% against the yen, and 20% against the struggling euro. Yet despite the huge incentive to export created by such devaluation, Britain is still running trade deficits because it has lost the productive capacity to respond. Despite the devaluation, Britain’s service exports have fallen – average annual service exports for 2008-11 were 8% lower than for 2005-07. This may be understandable, given the poor state of its financial sector…

However, manufacturing exports, which were supposed to make up the shortfall created by the services sector, also fell by 8% after the devaluation. This is highly unusual.

Plummeting production

The consultancy Prime Economics underlined the same point when it looked at the latest industrial production figures. They aren’t good; in fact, they’re continuing to fall. Manufacturing is around the same level as it was in 1992, coming out of the Lamont recession, while industrial production – which peaked in 2000 – is now at the level it was two recessions ago, in 1987.

There are a couple of stories here. The first is that the British economy seems to be de-industrialising, and not in a good way. The export sectors that are holding up are food, minerals, and oil. In other words, the economy is moving back towards primary production.
The resource curse

The second is that this might be another example of “the resource curse“. On the face of it, energy resources ought to be a blessing (they create new revenues, they’re the closest a modern economy gets to “free money”) but it never works out that way. There’s OECD research on this that suggests that the proportion of an economy that comes from resources correlates negatively with the level of knowledge and skills in a given economy.

We’ve seen an example of this industrial decline recently. Only this mointh David Cameron was trumpeting the potential of seabed minerals (and undersea engineering has been a strength of the UK in the past) but it turned out that the company that was going to lead on the project was the US firm Lockheed, albeit through its UK subsidiary.

Who’s to blame? You can take a very long view on this, as Martin Wiener did, and blame it on the unfinished English revolution, which meant that successful British industrialists aspired to the condition of aristocratic landed gentlemen.

The North Sea oil effect

Or you can look back a generation, to the way that Britain managed its North Sea oil revenues. In a far-sighted article, ‘The Economic Consequences of North Sea Oil’, written in 1980, Peter Forsyth and John Kay mapped out the consequences of an open market approach to an oil boom. It would lead to a revaluation of the currency, rendering huge swaths of the economy that was dependent on exports uncompetitive. The way to avoid this was to hold the revenues in a state investment fund. And as it turns out, this is about the closest you can get to a controlled experiment in macro-economics; Britain chose one route and Norway took the other. (Britain in 2013 versus Norway in 2013? You choose).

Of course, Thatcher wasn’t sorry to see chunks of manufacturing disappear. It was a route to weaken the trades unions, which she saw as responsible for many of Britain’s ills. And it is true that in the 1970s union power had pushed the wage share of GDP to a post-war high; too high, probably, to be economically sustainable.

Looking for Neddy

At the time, both unions and business had a voice in economic policy making, through the National Economic Development Council (“Neddy”) that brought them together regularly with ministers to review the health of the economy. (As a young financial journalist I was sent to their quarterly news briefings from time to time). This meant that issues around skills and investment were at least somewhere near the forefront of politicians’ minds. The NEDC had been created in the early ’60s by a Conservative government to improve collaboration between industry, unions and government, in an attempt to address Britain’s economic decline. It survived the consensual years from MacMillan to Callaghan, was largely ignored by Thatcher, but not finally abolished until 1992 by the John Major government, “leaving the UK without any forum for discussion of economic issues between government, unions and employers”, as the EU body Eurofound notes.

Ha-Joon Chang suggests in his article that if we are to address the rotten core of the British economy, we need to reinvent something that looks quite a lot like Neddy.

Without addressing the underlying decay in productive capabilities, Britain cannot fix its ailing economy. To deal with this problem, it urgently needs to develop a long-term productive strategy through a broad-based public consultation involving not just the government and private sector firms, but trade unions, educational institutions and research institutes.

There were a number of reasons why Thatcher disregarded Neddy. One was her dislike of anything that smacked of planning (you could leave that to markets). another was her visceral dislike of the unions; a third was that NEDC tended to over-represent the interests of the manufacturing sector, and by the 1980s it had become an item of policy that the future was not in manufacturing but in services. We know now – in economic terms – that all of these views were wrong. And since then, the share of GDP going to wages has fallen to record lows, in Britain and elsewhere, and demand has slumped as a result.

Services can be bad for you

What we also know now, of course, is that unions are good for your economy. They protect the share of GDP that is paid in wages, which in turn means that domestic demand is maintained and the government doesn’t need to prop up employment with support payments for those in work. They have an active interest in skills and training. They act as a brake on self-interested or rapacious management. And we also know two things about economies that are over-dependent on services. First, that if financial services becomes too large a share of your economy it is a huge risk,because many of the profits are illusory; and second, that much of the service sector (hairdressers, bars and so on) represents a low-wage, low-skill sector that does little for your economic development.

The economic crisis represents an opportunity to re-balance some of this, but so far this has been merely the subject of rhetoric about the ‘march of the makers‘. But it’s an even more challenging project than it appears, because it needs a rebuilding of technical skills that have been largely disregarded in the rush to university education. One of the effects of this, as a report from ACEVO argued last year (opens pdf), was that the pathways to work for non-university entrants have become illegible. But re-building the skills deficits in an economy can take a generation – and long term commitment – and politicians usually lack a generational perspective.

An alternative centre of gravity

I don’t imagine that a call to “bring back Neddy” is going to be a vote-winner in any election any time soon, not least because you have to be at least 50 to have any idea what it is. And I am willing to take bets that George Osborne will not propose in his forthcoming budget the re-creation of an economic development organisation that brings together the non-profit institutions that are essential to long-term development, such as research institutes, trades unions, and skills and training organisations. Some futures work, to make an honest assessment of where Britain can be competitive, and how, might be a good idea too. But however it’s done, our political and policy system badly needs an alternative centre of gravity that puts manufacturing, investment and skills back onto the public and political agenda. Otherwise the siren calls of the banking sector will just keep pulling the economy onto the rocks – and Britain’s future will be one of further and faster decline.