Risk and Reward: sustaining a higher value-added economy - Business and Enterprise Committee Contents


Examination of Witnesses (Questions 180-199)

WORK FOUNDATION

2 APRIL 2008

  Q180  Mr Weir: You have already touched on this question. In your evidence you say that "almost every member of the OECD thinks it is becoming a knowledge economy and almost every non-industrialised economy aspires to be one". On what grounds can the UK claim to be a knowledge-based economy over and above its competitors?

  Mr Brinkley: I do not think anyone has a particularly agreed definition. Everyone seems to have rather different definitions. India tends to talk about herself as a knowledge-based economy when they are really taking about addressing basic numeracy and literacy. There are various indicators that we can look at. The World Bank ranks economies according to where they lie on a particular scale: their share of employment in knowledge-based industries and the share of GDP in knowledge-based industries, but there is not a set definition that would allow you to say whether you are the best or the worst knowledge-based economy in the world. One of the problems with the Lisbon objective of turning Europe into the world's most competitive, knowledge-based economy is that no-one has actually said what they meant by that.

  Q181  Chairman: It makes it an easy objective to meet.

  Mr Brinkley: Therefore you can never say whether you had actually achieved the objective or not.

  Q182  Mr Weir: What do you see are the benefits and costs of a higher reliance on knowledge-based industries?

  Mr Brinkley: The benefits are that they contribute an awful lot of jobs. Everywhere we have looked in all the advanced industrialised economies, the knowledge-based industries and in particular knowledge-based services are big generators of new jobs. That is essentially where a lot of the employment growth has been coming from. They are also major generators of exports. If we were trying to answer some of the questions about what do we do in the world if most of low wage manufacturing is going to be done elsewhere, then one of the answers to that is that we do high value-added services and a lot of those are generated within the knowledge industries and the UK is rather good at that. I think the third benefit is helping with the flow of ideas and knowledge across national boundaries. We are no longer constrained by what is going on in the UK; we can actually reach out across the world and engage with what is happening in other countries in terms of new technologies, new ideas, new innovations. That of itself I think will speed up the process of innovation and increase the pace of diffusion. The downside is really one of whether you create then a two-speed economy, one which all looks rather positive with these knowledge-based industries expanding away and creating lots of good jobs, lots of high wage jobs, and other parts of the economy and other parts of society being left behind. We have looked at that question through our own programme and we do not see any strong evidence of that, but it is nonetheless a constant danger that you will split both the economy and society into one which is looking rather privileged and pulling away from the rest and the other which is rather left behind by these economic benefits.

  Q183  Mr Weir: When you are talking about patents, you are talking about the triad of Japan, America and the EU. Are there differences within the more industrialised parts of the EU as to the way that this is acting or would the economies of, say, France, Germany and the Netherlands be following a similar route to the United Kingdom?

  Mr Brinkley: There are similarities in terms of the shift in industrial structure, so they are all moving away from some of the older industries in towards knowledge-based services, knowledge-based manufacturing. That shift is constant everywhere. Where the UK is different is that we have specialised knowledge-based export services more than anyone else. This is something where we are very distinctive. One development which I think causes us a little bit of concern is that if you look at the groups of knowledge-based economies, what you see is in the Nordics, North America and Asia that they are pulling away from all the rest in terms of their investment in knowledge as defined by the OECD. We are in the middle group along with the rest of northern Europe with some signs that we may be falling behind countries like France, and then southern Europe is quite some way behind. From the UK perspective, we ought to be worried that we are not matching up to those levels of investments of the world leaders and the gap between us and the world leaders is becoming wider rather than smaller.

  Mr Hutton: There are two more things I would like to add quickly. One of our colleagues looks at the knowledge economy on a regional basis through our city regional idea of this programme and there is a very dense concentration of the private sector knowledge services, knowledge economy, in the South-East. In the rest of the country, particularly in the North-East and North-West (but less the North-West) and the Midlands, it is much more a public sector-driven phenomenon. There are pockets of private sector technology around the country. There is the Leeds gold triangle—Leeds, Harrogate, York—and there is some really bracing stuff going on in north Cheshire and Manchester and of course around Edinburgh and Bristol, but substantively the beneficiaries of it have not been generally shared nationally. One of the reasons for that is because we are not being as smart as the countries that Ian cited as using the knowledge economy as a potential source for re-industrialisation. This has not been talked about much yet but it is where our thinking is going. We have noticed that in the United States their exports are increasingly manufacturing exports, partly because of the low dollar and partly because of the way they have used the knowledge economy to re-industrialise. A little known fact for example is the way the United States has just reclaimed its place in the number one spot as world exporter. Its exports in February of last year grew by 13% (that is all exports) and within that some exports of manufacturing capital goods were growing at 20% or more. That is faster than the Chinese. They have used the knowledge economy; they have used enormous investment in R&D, universities and defence to really reindustrialise and get their exports moving, and of course that is good regionally because that means jobs in places like Illinois, South California and New Jersey where there has been a fall in employment. If we want to spread our knowledge economy out more than it is, we need to be able to capitalise on the opportunities for reindustrialisation that this opens up.

  Q184  Mr Weir: That is very interesting. One of the things in our investigation into the new EU Accession States in eastern Europe is the way that many of them are trying to leap ahead to this type of knowledge economy. Is there a danger of the UK being left behind by them using that process of industrialisation to leap up the scale?

  Mr Hutton: The Japanese are masters at this. You can see what is taking place in the Nordics. Ian has pulled out some really interesting figures which I do not think he has sent you. The investment the Americans make as a share of GDP in R&D, tertiary education (universities essentially) and software, which is now the heart of the knowledge economy, is 6.5% of GDP. Of course that is the springboard to this phenomenon that is taking place in the States, which the Americans themselves do not recognise. Of course there are parts of America which are still in dire trouble—Ohio and Pennsylvania. It is a mixed picture. There are parts of the United States which are really reaping the benefit from the Japan effect, if you like. The next up of course is the Nordics. Sweden is spending 6.4% of GDP. We are only spending 3.5% of GDP. That is partly because we are the sixth biggest manufacturing power in the world but it is smaller and so consequently there is a less big base around which to do conventional R&D in manufacturing and knowledge services. As Richard Halkett was explaining I think, it is less about R&D than innovation and we do not measure that well. We do not spend the same amount of money on software or in the university sector. If you want to reindustrialise, build it up and do it in the areas outside the South-East, one of the necessary but insufficient conditions will be a big investment in our Russell Group universities that are outside the South-East because you would then get some knowledge sharing and off the back of that small firm formation and the beginnings of the reindustrialisation effect. These are jewels in our crown. It was good to see the Innovation White Paper talking about it but we need to put some serious money behind it.

  Q185  Mr Weir: You mentioned earlier about the consumer sector. One of the key drivers you have identified for a knowledge economy is a strong consumer market for high-end goods. What impact might an economic downturn have on consumer demand and business investment in the knowledge economy?

  Mr Brinkley: There are impacts in some areas more than others. The obvious one is the financial sector, which is part of the knowledge economy, and that will have a very direct impact, probably less so on some of these knowledge-based industries because they are exporting to markets do not tend to be particularly sensitive to either exchange rate movements or changes in some of the variables we are seeing round the housing market. I suspect the impact there is going to be much more on areas like retailing and so on where there is more direct feed across. Overall, I would say probably having a well-developed knowledge economy gives us a bit more of a cushion against some of these changes compared to the previous industrial structure that we had, with the big exception of financial services where there is going to be much more of a direct impact.

  Q186  Mr Weir: How many of the features you associate with the knowledge economy could be attributed to increased prosperity rather than to structural change in the economy?

  Mr Brinkley: It is a mix. It is not just that people are getting wealthier; they are actually changing their preferences as well as they become wealthier, and they are shifting much more of their expenditure into areas which have helped the knowledge economy grow with education and health services being the obvious ones, but also a lot of the very high value-added products and high value-added services. Unless people are actually changing the way they spend their money as well as having more of it, these certainly would not have seen those changes. Part of the change is also driven by changes in global demand. If you look across to the industrialised economies, their exports at the high end of industries—pharmaceuticals, aerospace, electronics—are absolutely booming because there is a huge increase in global demand for these products right across the piece. In that sense, I think it has been a mixture of both increase in prosperity and changes in preferences and something which would have happened any way but at a much slower pace.

  Mr Hutton: You might want to ask the Futures Foundation to give you evidence. They have been tracking what has been behind this huge demand for over 20 years. They have a matrix of factors which try to explain people's buying decisions. Increasingly, ethical questions, environmental questions and questions about how can this product or service I am buying actualise or improve my life as a human being are really rising up the portfolio of buying decisions than just: it is cheap, I want it, I will have it. Prosperity is a necessary condition for that, obviously, but what is interesting and what people did not quite expect is the very rich way that prosperity has allowed people to express themselves in how they buy. That has produced this supply response. We have been quite good at the knowledge service part of it but much less good at the knowledge industrial part of it.

  Q187  Mr Weir: One of the features of your evidence and that of NESTA was that the UK performs strongly on a large number of knowledge economy indicators, despite relatively low expenditure on infrastructure. Perhaps you have answered this question to some extent in what you were saying about reindustrialisation. In these circumstances, why make changes to policy?

  Mr Hutton: If I was asked to describe what the Government's policy is on the knowledge economy, or indeed the Opposition's position on the knowledge economy, I would be hard put to it to come up with that. Both parties are in favour of it, and I am sure the Liberal Democrats are too. You are right: if it is working, do not try to fix it. In some of these phenomena like knowledge services, Britain's success in auctioneering or Britain's success in advertising or Britain's success in its university sector, which is very autonomous in Britain, and that is one of the reasons why it is so successful, has very much come up from below. No-one set out to say, "Let us have a successful advertising industry" or "let us have a successful auctioneering industry". Interestingly, I think the financial services sector is one which has had probably most overt support through the regulations that have been put in place or the tax breaks for non-doms. One of the things that Ian's numbers show, and I always like to tweak the financial industry's tail a bit, is that actually they are simply part of a more general phenomenon which is the rise of knowledge services. The truth be told, in terms of employment generation or improving their share of Britain's knowledge service exports, the story is not that great. The real story in the last 10 years has been our great teaching hospitals, our great drugs companies, our great manufacturers like Rolls-Royce and what is happening in culture and the creative industries and what has been happening in ICT and in things like auctioneering. I suppose the Big Four accountancy firms, although they are not conventional financial services like you think about clearing banks, building societies and investment banks, is where the action has been. They have been really just going like a steam train, really benefiting from globalisation. The much vaunted City has been doing satisfactorily but it has not been growing as rapidly as some of these. That is an important point. I think that we need to understand it better and then start thinking about how one could support it. Much of this is about allowing it to do things at arm's length. The state getting involved too closely for example in the creative industries is problematic. On the other hand, institutions like the V&A, the South Bank centres and the BBC, which are at arm's length from the state and have big public support through things like the licence fee or grants administered by the Arts Council, have worked rather well. We have to be much more subtle in the way we think and talk about the knowledge economy. Obviously one is not picking winners; one is not interventionist. One has to think about the institutions that we possess that help it and we really have to make sure that we identify them, grow them and support them. That is not happening sufficiently to my mind.

  Q188  Mr Bailey: Ian, you touched on this earlier. Basically, would one of you like to define what the implications in terms of the labour market are from the growth in the knowledge industry?

  Mr Brinkley: I think three things: one is that it is absolutely crucial in terms of generating jobs and getting unemployment down and getting higher rates of employment. This is where most of the net change has been taking place. Overall, these tend to be on average pretty good jobs as well, so it is also improving the quality of employment as well as the quantity. We looked at two specific questions: is it the case that you are now driving towards a vast labour market with more of these very good knowledge economy jobs at the top, lots of these rather poorly paid jobs at the bottom, and the middle contracting, partly because of the contraction in manufacturing? Our research suggests that that trend was certainly true in most of the Eighties and the early Nineties, but over the past decade it has not become any worse, so there is some stability there. There is still a basic problem because obviously it certainly is not getting any better in terms of the inequalities and divides. The one which is increasingly on our mind is these regional and local differences, that the knowledge industries are very much concentrated in the South-East of England. Although, as Will was saying, you have these pockets outside, if any government was interested in trying to reduce both regional differentials and differentials within regions in terms of both employment rates and prosperity, then we need to see that map of the knowledge-based industries change. What you see is a very different map, if you look at both the public sector and the private sector. The public sector, as you would expect, is much more evenly spread around the country because it is providing universal services. It is the private sector which is piled up in the South. I think the challenge is to try to get that private sector map look a bit more like the public sector map in terms of its spread, without losing the advantages that we have from these knowledge-based services.

  Mr Hutton: If you look at the map, the South-West, Wales and the Midlands are really weak or comparatively weak compared to London and the South-East. Then your eye trains north and it is Manchester, north Cheshire, Leeds, Sheffield, the area I described as the golden triangle (Leeds, Harrogate, York) that are really quite strong and growing, and the universities there are doing very well. You can see that. I sometimes think that is not just about some of the institutions on the ground there, which are very strong; it is also about the demand effect. There are a lot of consumers in a belt running from Liverpool across the Pennines. It is a huge source of comparative advantage for that part of the world. There are close on 20 million people there. It is beginning to float. It is the biggest challenge to the conventional north-south divide in a way. There are strong numbers in the South-East, an emergent bracing strong knowledge economy either side of the Pennines, and a rather weak middle. It is not the conventional way people think about Britain. Of course, your eye trains north and Edinburgh has a very strong knowledge economy. It is breaking up old regional culture. The way all of us—the commentariat in the newspapers, politicians and officials—think about Britain needs to be slightly re-thought in the light of the way the knowledge economy has been changing things on the ground.

  Q189  Mr Bailey: Interestingly, if I can paraphrase what Ian said earlier, basically the polarisation process has now been stopped but not reversed. My experience is from representing West Bromwich West, the Black Country area. I am tempted to ask: what has the knowledge economy got for Tipton? What are the factors that lead to these clusters of knowledge-based industries and what can be done for areas like mine which have totally missed out on it?

  Mr Hutton: We have done some work with the North Staffordshire Partnership which asked the Work Foundation to look at North Staffordshire and the Stoke economy, which is very similar. It is tough. Some parts of the West Midlands do have strengths. It would be wrong to say it is all weakness. Birmingham University has a very strong engineering department, but it is absolutely well below critical mass. We will have to think about the institutions that the knowledge economy feeds off. These are very strong FE colleges and universality research departments; they are not just knowledge economy multinationals. An interesting phenomenon which Ian can talk about is the emergence of firms between 250 and 1,000 strong which are going gangbusters in Britain. This is one of the reasons why I am a bit less pessimistic about the credit crunch and its impact on the economy than I would otherwise have been because they are very adaptable with high exports but they are not in your part of the country. Part of it is about the city governance. What has worked very well in Manchester is the way Howard Bernstein had actually got Manchester together to exploit opportunities. Sheffield and Leeds have been well led. These are well led cities. They have seen what has been going on around them and they have had the governance structures to capitalise on it. In the West Midlands I think the governance structures are very weak and the institutions are not fit for purpose. The result is that you see what you see. Bristol is not as strong as it should be, frankly, in my view, but in our numbers it has a strong university and the aerospace industry. It should be doing better than it is doing. That is my answer. It is very difficult. There is no magic bullet.

  Q190  Mr Bailey: I knew it was a difficult question. I wanted to see how you handled it. I suppose it boils down to: what are the key factors which determine where the private and public sectors invest their knowledge resources? Perhaps you would like to say a few words about that and then I will take it back and make one or two suggestions.

  Mr Hutton: We are publishing our report on Stoke in a few weeks' time. I think it does have implications for other parts of the West Midlands. The private sector will only come into areas like yours, to be brutal, if it sees, over a reasonable planning period, the chance of making some returns. It might do that if there are existing strengths. One has to be quite ruthless about looking at the strengths of particular parts of the West Midlands and saying that it is only really by building those up and getting the local authorities and politicians like yourselves to abstain from "I want a bit of the pork" and to recognise that if you spread the jam around and do not focus it on a few things that have a real chance of becoming national institutions, maybe European or global ones, then you have lost the plot. I find it is very difficult for local communities to face that. It is a very brutal thing to have to confront. If there is some money coming from the regional development agency or from central government, everyone wants to see it spread round equitably, but the honest truth is that you may have to focus on something that will allow the regional economic fire to catch and then everybody will get warm. If you just spread the tinder around, there is no fire. Do you understand the analogy I am trying to make?

  Q191  Mr Bailey: I can understand it. I have to say it is not all doom and gloom.

  Mr Hutton: I agree. I am not being excessive. I am trying to be balanced but it is less successful than in other parts. Twenty years ago you would have said that Sheffield and the West Midlands are very similar. That is my point.

  Chairman: We are wandering a bit away from our main subject.

  Q192  Mr Bailey: Could I ask a supplementary on a totally different angle? Basically, why do women do better than men in terms of the knowledge economy?

  Mr Brinkley: It is partly because the supply of labour has shifted much more towards women, and so we have many more women graduates coming in to the labour market. Women have been increasing their share in particular science areas—the life sciences and so on. The knowledge economy has a huge demand for graduate level labour and the shift in the graduate population has been much more to women. There has been a very big supply response. Where women perhaps do less well than we thought they might tends to be on wages. You still see some significant gaps in wage levels amongst relatively skilled people you might term as knowledge workers between men and women. That still seems to be a persistent feature. I think women are doing quite well in terms of the quantity indicators and perhaps less well on the wage indicators. There is a broader puzzle about why this expansion in the knowledge economy has not fed more strongly into some of the improvements in the equality indicators that we see.

  Q193  Mr Bailey: Would you say that there are certain areas of the knowledge economy where women have done much better than others and there is some potential in other sectors?

  Mr Brinkley: They seem to be increasing their share pretty much across the board. Where they come out particularly strongly tends to be in areas like business services, but also in the public sector based knowledge industries. Health care and education are enormous employers of better educated women, probably less so in areas which have been more traditionally dominated by men and so the financial services and the City are still very much a male preserve and so are parts of high-tech manufacturing.

  Chairman: As Parliament tends to be, Julie Kirkbride!

  Q194  Miss Kirkbride: At least I earn the same as you, Peter, or I do not because you are Chairman of a select committee. Were I to be, I would. Three out of four of us are Midlands members, so we are slightly sobered by what you said that we are so losing out. I am not sure what more you can add to this. Whilst you were talking, I was thinking that in the South Midlands there is Warwick University, as you said, Birmingham which is an excellent university itself and there is the A38 technology corridor. We are trying quite hard. I have said to my own constituents that there are quite a lot of rich consumers around and yet we are still not cutting it like others. Is there anything else that we could be doing?

  Mr Hutton: Goodness me, you are right the East Midlands, Warwick University, Leicester, Nottingham and Derby are in better shape than the West Midlands.

  Q195  Chairman: Warwick is the West Midlands.

  Mr Hutton: You claim Warwick and Julie Kirkbride claims the South Midlands. Derby is a very interesting town. Toyota is a big employer there and so is Rolls-Royce and there is still some of the old British Rail engineering. There are a lot of industrial apprentices there. I think that with the fall in the exchange rate, you are going to start to see that re-industrialisation effect hit Derby. Some social indicators have determined this very well because of course it is getting young boys in particular to come into industrial employment. It is not all doom and gloom but Derby has these assets that it can build on. Some of those are just the way the dice have fallen historically. There are possibilities with the lower exchange rate that Stoke might even do something with its ceramics industry. It should not just be written off. I am sure if one looked closely, as I know Liam Byrne who is the Minister for the West Midlands is doing, and Advantage West Midlands, there is good work being done. They are keenly aware of these trends. You need to look hard at the institutions that you possess, private sector and public sector, and put in not just money but status and maybe planning support where they need to expand and to try to build them up so that you have some of the assets in the West Midlands that other parts of the country have, those who are exploiting these trends that Ian and I have been talking about.

  Q196  Miss Kirkbride: You said earlier that we need to make more use of our universities and particularly the Russell Group and it comes down to money. Where and what should we be building the Russell Group universities with outside the South-East?

  Mr Hutton: That is because I have noticed in our studies that you cannot tell the story of what is taking place in, say, the golden triangle in Yorkshire without thinking about Leeds, Sheffield and York Universities. Those are strong universities. Similarly, you cannot tell the story about something in Manchester without the strong universities. These are very good. Liverpool has had, for the first time since the early 1920s, a net migration back into Liverpool in the last couple of years. Liverpool University has one of the finest medical faculties in Europe. These things are great and they interconnect. If you look at the international league tables, our Russell Group universities—and Oxford and Cambridge are always at one and two and the strong London ones like Imperial are always in the next five or six—like Leeds, Manchester, Nottingham and Bristol are inside the top 50 in the world league tables. We need to understand why they do so well because we do not fund them very well. I think it is partly because they are autonomous; they have autonomous governance structures, so the vice chancellors have a capacity to build up the intellectual faculties. They have a capacity to do independent R&D. Some of them are networking together now. I am slightly concerned about the way we think about universities. Universities are one of the most important assets of the knowledge economy. We do not want to kill the goose that lays the golden egg by thinking of them too much as sources of economic regeneration or sources of wealth generation. They are sources of knowledge generation, first and foremost. I think that should not be compromised. I would like to see a significant increase in the flow of grants for research. We probably need to allow them to raise more money, particularly those in the Russell Group, by putting up their fees. I know that is difficult politically. We need to get resources into them from both the public and the private sectors and simultaneously respect the way they operate constitutionally as independents and knowledge generators and accept that some of the benefits will be indirect and if you try to force-feed it, you will kill it.

  Q197  Miss Kirkbride: Earlier this morning you were talking about international comparisons and how we are in the second league and America, Japan and the Nordic countries are in the first league, with southern Europe in the third league and China and India somewhere lower. Why is that? What do you think the defining characteristics are that create that list?

  Mr Hutton: The US and the Nordics are out in front. Japan is just tucked in behind them. They are really beginning to pull away. Then there is a middle tier of which we are one. Then there are aspirant knowledge economy areas. The precondition for a successful knowledge economy has got to be investing in knowledge. That means universities, R&D and software. Secondly, you do well if you are open and not closed. Like globalisation, you need to keep barriers down. I do think it is about support for the institutions, not just the universities but all the institutions that really drive it. It is about design. It is extraordinary that the V&A for example or the Design Council or some of our FE colleges that support design have their backs against the wall like they do. You do not think of them as part of the portfolio of things to do but they are part of the portfolio of things that you have to access. There is more besides. You also have to have structures that permit your small and medium sized firms to scale up. I am really quite concerned about one thing, and I do not know whether NESTA said this. Jonathan Kestenbaum has drawn attention to the fact that 3i—

  Q198  Chairman: He did mention that.

  Mr Hutton: I think that is very serious. I also worry about the impact of the credit crunch on the banking system supporting and giving the loan finance that firms need to scale up. That is critical. I wonder whether we should be thinking about either institutions like a knowledge bank or, if you do not want to go that far, ways of using the tax system to help the private banking system support knowledge firms at that stage of their development.

  Q199  Chairman: I am sorry to interrupt you because that is very interesting. Funding of innovation is a really important theme, no doubt, and there is quite a lot in the Innovation White Paper about this. There is a lot about R&D tax credits and so on but the funding gap of small start-up innovation companies, up to about £2 million, seems to be almost more important than having big companies that will probably do it anyhow.

  Mr Hutton: It is beginning to happen in that belt I described—Liverpool through Manchester, Sheffield and Leeds. You are going to see small firm formation but you are not seeing that happening enough because they have demand to help them. In the absence of demand, the pace of growth is going to be that much slower and consequently you are going to need more finance to help you through, and particularly in the first three to five years of your life as a small firm. It has been a long-standing gap in Britain. It was identified by a predecessor to you in 1931 as the Macmillan gap, and here we are in 2008 and it is still there and evidently, more important I think in 2008 arguably than it was in the 1930s.

  Chairman: We are running out of time and we still have quite a lot of ground to cover.


 
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