Don’t fear the undead
22 May 2018
The collapse in productivity growth after the financial crisis is one of the most striking features of recent UK economic history. After averaging at a 2% annual growth in the decade before the crisis, it has since languished at around 0.5% per year. The precise cause of this persistent disappointment is something of a puzzle. However, discussions about the phenomenon have frequently focused on how low productivity firms may have dragged down the aggregate level of productivity. For example, the Bank of England’s (BoE) Andrew Haldane has talked about a long tail of low productivity companies “unable to keep-up…with frontier companies”. These low productivity firms – ‘zombie companies’ – have perhaps been kept alive by supportive monetary policy and bank forbearance more generally. If rates had been higher, these firms may have been forced into bankruptcy, perhaps explaining why corporate liquidations in the post-crisis period did not spike nearly as high as they did in previous downturns (see Chart 4).
Instead, these zombie firms are able to continue to operate, absorbing resources such as labour, capital and physical space. This may deprive more productive firms the opportunity to expand, and new firms the space to enter the market. So the argument goes that the forces of ‘creative destruction’ were not allowed to work properly due to easy monetary policy. However, recent research published by the BoE casts some doubt on this narrative. Using firm-level microdata, the Bank’s study looks at the change in productivity across the distribution of productivity levels. It finds the slowdown in productivity growth in the post-crisis period is isolated to high productivity firms. Low productivity firms are actually doing better, which is not really consistent with lumbering zombies dragging down productivity growth. It is plausible that the slowdown in productivity growth in high productivity firms is partly explained by a failure of resources to flow from zombie firms to high productivity firms, making it harder for them to expand than it was in the past. However, the fact that corporate birth rates are above their pre-crisis peak (see Chart 5) does not suggest resource hoarding by zombies has especially hindered new, potentially more productive, entrants.
There are other reasons for doubting that tighter monetary policy would be much of a panacea for the UK’s productivity problem. Higher rates would not only affect low productivity firms, but would also probably force some highly-levered, high productivity firms into bankruptcy. Moreover, accommodative monetary policy has helped to sustain economic activity and employment. Had rates been higher and growth been weaker, it is likely that corporate investment would have been even weaker than it has been. Companies would have been under even less pressure to expand capacity and this lower capital formation would almost certain weigh on productivity growth. Meanwhile, a more sluggish recovery in the labour market would also have held back productivity. Long periods of unemployment tend to lead to skills erosion, while attempts by workers to avoid periods of unemployment may encourage them to settle for jobs that don’t make the best use of their skills. Therefore if interest rates do gradually increase over the next few years, as we expect, it is unlikely to do much to boost UK productivity.