Select Committee on Trade and Industry Minutes of Evidence

Examination of Witnesses (Questions 149-159)



Mr Berry

  149. Mr Hutton, would you like to introduce yourself and your colleagues?

  (Mr Hutton) I am Will Hutton, chief executive of The Industrial Society. On my left and your right is Rebecca Harding who is just joining us as our chief economist, and Andy Westwood is deputy director of our research department and specialist in labour market skills acquisition. Rebecca: institutional structures, R&D, DTI, government interventions.

  150. Could I ask about New Jerusalem? Some of us like the title because of its historical connotations. The strategy in New Jerusalem, as I understand it, is pretty critical of the preoccupation with macroeconomics and says that more attention should be given to micro initiatives. Could you start off by indicating what evidence there is for that approach?
  (Mr Hutton) This debate about productivity is enormously longstanding. If you go back in your records, you will find committees on this in the 1880s and 1890s. It has always been defined as a debate between, on the one hand, statists who say the answer is to mobilise resources, and sometimes those come from the right; sometimes from the left. The counter argument has come from the anti-statists who have said the way forward is less regulation, more market forces. What we are trying to do is to redefine it. New Jerusalem is part of that intellectual attempt. The one thing that cannot be said about Britain's lack of productivity in manufacturing is that it has much to do with regulation or over-regulation. We have the least regulated labour market in the OECD. Looking around at corporate governance standards, health and safety, we are at the low end of the range. No one is in favour of cumbersome or bureaucratic regulation but the notion that the reason why manufacturing is held back by regulation is very difficult to stand up. You then have to say why. One answer is that low productivity is a rational response to the array of prices that manufacturers face. Broadly, capital is expensive and labour is cheap. Consequently, our manufacturers use less capital and more labour. The labour they use tends to be unskilled or semi-skilled. That pattern has reproduced itself over a period of decades. What we think lies behind that is the institutional structure that throws up that array of costs to the manufacturing sector and the business sector generally. What we are trying to argue is that we need to look behind the institutions that throw up the array of prices and incentive signals that have persisted over time. There is one cluster of institutions around determining the cost of capital, hurdle roads, pay-backs, which I am happy to talk about. There is another cluster of ideas around institutions, around the way skills get formed, and there is another cluster of institutions around governmental intervention and that is where New Jerusalem locates in our overall thinking and our overall programme of publication of research in the next 18 months to two years. It is not quite micro; it is more looking at institutional structures.
  (Ms Harding) I would support that 110 per cent. What we wanted to do with New Jerusalem was move the debate away from what we view as a kind of complacency about British macroeconomic performance. We have comparatively high growth and low unemployment and we felt that this was masking some of the very real problems that were existing at the micro level in the economy. We wanted to look at the productivity problem in terms of its longstanding nature. We wanted to look at productivity as a manifestation of institutional failures rather than market failures. We wanted to look at where the origins of that productivity gap were in terms of the institutional structure of the British economy at a very micro level. We were perfectly open, I hope, in New Jerusalem in saying that some of the microeconomic initiatives like an R&D tax credit, for example, to try and improve productivity are to be welcomed. They are necessary but they are not sufficient. One of the problems with the economy and in closing the productivity gap which is a very longstanding institutional one is that we do need better structures of bridging institutions, particularly in research and development, education and training and skills, in order to be able to improve the performance of industry at a micro level. What we are trying to do is identify those as institutional problems and move the debate away from markets to look at some of the structures of the economy that are causing that very long term productivity problem.

  151. There are economists that we all know who would say that the bottom line is that you get a high rate of growth, a high rate of investment, capital accumulation and that drives productivity growth and it is simply an argument that says the macro framework, at the end of the day, is the key determinant of productivity growth and not what is happening in individual clusters or whatever. I was trying to tease out of you any evidence you have that suggests that that approach is wrong and that it really is looking at a more disaggregated level at what is going on in the economy.
  (Ms Harding) It is a necessary but not sufficient condition. If you look at countries where productivity is higher and where there has been a faster catch up in productivity—my particular expertise is in eastern Germany, looking at how eastern German states have caught up in terms of productivity—what they have done is try and develop an institutional structure that is right for innovation, education and training, which is very closely networked, which is very sector specific and specialised and very regionally focused. Those are the areas that we identified in New Jerusalem as being the lessons that we can learn from America, Germany, Denmark and a lot of the Nordic countries as being the areas which have driven productivity to higher levels in those countries. What we were saying was, yes, you should have stable macroeconomic conditions; yes, you should have R&D tax credits and micro interventions, fiscal interventions, to make markets work efficiently, but what we wanted to say was that those are the domain of the Treasury. Those are the sorts of things that the Treasury should be doing but the Department of Trade and Industry should be focusing on some of the more normative aspects of productivity, some of the more institutional factors which are not so readily measurable and identifiable. What we did in New Jerusalem was begin to think about ways in which those institutional factors might be measured. That is quite different in terms of the economics of productivity because unless you come from an institutional economics background, which I do, it is quite difficult to see the institutional failures as underpinning market failure.

  152. I am reminded that the report was written before the General Election. Has there been any evidence for greater hope in terms of policy initiatives since the election or not?
  (Mr Hutton) Patricia Hewitt has announced a reorganisation of the DTI which was partially informed by New Jerusalem.
  (Ms Harding) The language that is coming out of the DTI now would suggest that the message that the more normative, institutional structure of the British economy needs to be taken into account. Personally, I welcome the view that science and technology and innovation should be at the heart of any industrial policy, rather than bunkering it on one side. I feel from that point of view that the language is appropriate and, yes, there are some changes that are to be welcomed since the election.

Dr Kumar

  153. In your New Jerusalem you say, very critically if I might say so, of the DTI, it has long been regarded as being a second rank ministry of state and somewhere you say, "Today's DTI has all of the strategic coherence of Dad's Army and Marks & Spencer." Does it generate some more confidence that the Department is going in the right direction? You also suggested a new name for the Department: Productivity Employment Office. Does it matter what name it has, because in the end it is the structure changes which are required. How much confidence does that generate? You may want to expand on what you were saying.
  (Ms Harding) The view that we wanted to put across was that in the British economy generally but in the DTI in particular there is some confusion over what the real issues are and what needs to be addressed at this institutional level in the economy. Defining what you are looking at in terms of the institutional basis of productivity is extremely hard to do. I think there was a very real frustration that some of the initiatives that had come out of the DTI before the election were somewhat vague and lacking in strategic direction. We felt that there was no real end goal. The debate on the competitive position of Britain was not being couched in terms that would enhance productivity in the first instance and competitiveness in the long term. We felt very strongly that there were a number of areas that needed to be dealt with: regional policy, science and technology, education and skills and so on. We felt that by being rude, I suppose, it would shock the Department into doing something. Okay, I do not want to take too much credit for it because I am sure I am not the only person who has said things like that, but what we did was to say, "These are the areas that are fundamental to improving productivity. These are the sources of innovation. These are the sources of productivity in the institutional structures." A lot of the language that has come out of the DTI since then has been a review of whether or not those structures are the appropriate ones. It has actually been very positive since. I think the issue is dealing with the institutional structures of the economy, the name in a sense is immaterial and has been superceded by events since the election, but I think the issue is dealing with the institutional structures and certainly I welcome the changes that are coming out of the DTI now, it is creating clear blue water which is what the Treasury stands for and what the DTI stands for. I think the Treasury quite rightly stands for macro economic stability, micro economic stability and trying to address the issues around market failure. The DTI has a quite distinct role. If you look at all of our competitor nations they have a distinct ministry which deals with these institutional structures. It is the Ministry for Research and Technology and Education and Training in Germany, BNBF. There are similar structures in Finland, Denmark: Denmark has just set up a Ministry of Science and Technology. There are these types of ministerial structures elsewhere and recognising that we do need to be dealing with the economy from an institutional perspective as well as from a market perspective is what we are really trying to drive at and that is where the clear blue water is between DTI and the Treasury.

  Mr Berry: We never adopt the tack of being rude which is why we are so shocked.

Richard Burden

  154. I would like to ask you in a second about the regional and local angle of this.
  (Ms Harding) Yes.

  155. Just staying on central Government for a moment. One of the things you say in the New Jerusalem is that one of the problems with Britain is it characterises network animosity rather than network reciprocity.
  (Ms Harding) Yes.

  156. Whilst in no way wanting to suggest you are suggesting any network animosity between, say, different Government departments, you say that there have got to be distinct roles for DTI on the one hand which will be distinct from the Treasury. Both have got valid roles, valid perspectives but they are different. How would you want to ensure that the interrelationship between those two departments is characterised by network reciprocity?
  (Ms Harding) What we meant by that phrase was that if you look abroad there are very clear delineations of what responsibilities are at a departmental level and at the level of individual actors within the whole economic system, institutional system of an economy. What we wanted to do was get away from this competitive view that we tend to have in British public life and also in British industrial structures of "This is my backyard and don't you play in it unless I let you". The way that you actually get around that problem is by developing expertise within departments and ministries which are distinct and unique and very clearly defined and which then allow that body of information, that knowledge base to be respected and to be plugged in to by outside actors. So the Treasury will go to the DTI and say "Look, you are the experts on institutional economics, you are the people who understand the market failure in terms of institutions, tell us a little bit. Write some papers and tell us a little bit about where the institutional failures are and then we can start to think about how we might address those from the market failure perspective as well". Conversely, the DTI would say to the Treasury "Well, you are the people who deal with market failure from the point of view of fiscal measures and so on and so forth so we have identified this as an area but you need to think about how that can be addressed from the fiscal perspective". It is actually collaborating and creating cultural reciprocity which maybe is about defining what each of the Government departments is about and where the clear blue water is but where there is scope also for creating synergies.

  157. If we move on to the more local and regional level. Again, going back to the network reciprocity/animosity issue, you have a table in the New Jerusalem, table one, where you outline some of what you see as the differences between the UK, Germany and America. In practical terms, how would you see some of the virtuous circles that are outlined in there being developed in the UK? What does it mean in terms of what you do with RDAs, the Chambers of Commerce and so on?
  (Ms Harding) Again, I can talk about this for hours and be incredibly boring about it. The important thing that you see, again, in the United States and Germany—and the interesting thing is just how similar the United States and Germany are at an institutional level. The responsibilities of the regions in relation to national structures are quite clear and quite distinct. In terms of economic governance there are regional bodies which have responsibility for funding education and training, for identifying the regional innovation strengths of a regional economy for developing the technological focus and making bids for the national government and to the European Union about particular technological areas where the expertise is within a region. Effectively it is about developing clusters at a regional level, I use the word clusters with some hesitance. It is about developing networks at a regional level which are based in regionally identified strengths, sectoral strengths. That could be in terms of technology. If you look at the way the Eastern German regions have developed their economic strategies, it is in terms of identifying clear innovative areas, areas of innovation and technology where the whole system can bring something to the party. So you are talking about the universities having expertise in a particular area, attracting inward investment from, say, the intermediate technology transfer institutes so that they will come in and locate in that particular region and set up expertise in particular technological areas but where there is not technology it is saying also "Oh, well, we have an expertise in this service" or "We have an expertise in this particular industry". It is about getting that defined at a regional level and then translating that into resources and networks so that everybody is pulling in the same direction so that everybody knows what the goals are and can manage that in a strategic sense.
  (Mr Hutton) I was in the East Midlands recently at a summit on manufacturing that was held in Nottinghamshire. There is in Nottingham and Derbyshire, of course, a potential great cluster of aerospace companies. There is a bit of BA Systems there, there is Rolls Royce, of course, and there are bits of Marconi, a company in some trouble but supplying the aerospace industry from its factories there. It is actually a potential regional cluster. Then you start looking at what institutional structure would support it. Does the university system there in Nottingham and Leicester really specialise in aerospace and engine building? No. What about the financial system, does it support that? No. What about research institutes that might be based there and might have world class people working at the frontier of technology in that part of the world? Nothing. What about building a really fantastic airport there, airports are pretty important centres of all high tech clusters at the moment because you bring the kit in in enormous wide bodied jets. You would want that particularly for the aerospace industry. Any chance of that? Well, not much. What about the East Midlands Development Authority having the capacity to knock some heads together and some energy to harness local entrepreneurs? It is a shame, it is a terrible, terrible shame. You just see on the ground the institutional structure which does not support potential, and I think BA Systems and notwithstanding its problems Marconi, and Rolls Royce are great world class companies. They have got their backs against the wall. Not just that, of course, there is a whole lot of other things which we have not talked about which is the degree to which all those companies find they are getting term finance because you have specialist banks in Germany. The irony, as Rebecca says, is you get specialist banks in the States. There are 10,000 banks in the States. If you go to a particular State like North Carolina, North Carolina three or four years back, the banks there are locally owned and they specialise in lending to the high tech companies in the North Carolina growth triangle. They have autonomy decision making and they can lend enormous sums of money for five and ten year periods in a way that the local clearing banks in the East Midlands simply cannot. Decisions have to get referred back to headquarters and of course all the London clearers are under the cosh about generating this systematic growth in earnings and profits and dividends to satisfy institutional shareholders with again, no institutional matrix to protect them. The whole system undermines our aerospace industry which is in my view one of the areas where we still retain technological manufacturing excellence. What we are trying to do at the Society is to try and take it away from the argument "Oh, we suffer from burdensome regulation" which, if you talk to any of them, is the case. "We do not even talk about it. It is ridiculous. Ridiculous conception. It is not the core of it". The exchange rate, although important, is not fundamental because if you get a buyer, what is the value added, the technological quality. There is a degree of price sensitivity but over valuation and the exchange rate is not the core of the aerospace industry's problems although it is one of the factors. When you look at it closely and go on the ground, it just leaps up. If the Committee went and spent some time just looking at that corner of our manufacturing I think you would come back with some very similar conclusions to the ones we have got.

  158. In order to develop the institutional matrix which you say is not there in the UK?
  (Mr Hutton) It is like a sweet shop, it is so sad.

  159. That is how it is. You tend to move incrementally to swiftly develop that matrix. What would you see to be the key institutional changes?
  (Ms Harding) Intermediate technology transfer.

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