What explains Northern Ireland’s long-standing problem of low productivity?

Low productivity is widely recognised as one of the most important economic challenges facing the UK. But it is a problem that has affected Northern Ireland’s economy for the past 100 years – and it is yet to be solved.

This year marks the centenary of Northern Ireland’s creation. During that time, its economy has persistently underperformed and it has remained one of the UK’s poorest regions.

Central to this poor economic performance is low productivity. Northern Ireland produces less output per hour worked than most other regions in the UK. In turn, the UK underperforms relative to its international peers: UK productivity is lower than in the United States, France and Germany, and has grown more slowly over the past decade. This makes Northern Ireland’s low levels of productivity even more concerning.

Several potential causes have been suggested for why firms in Northern Ireland are less productive than those in the rest of the UK. Yet attempts to address this ‘productivity gap’ have, so far, been unsuccessful, reflecting its interdependent and deep-seated causes.

Does Northern Ireland have a productivity problem?

Productivity measures the amount of goods and services ­– or output – produced in an economy. Productive firms are key to increasing economic growth and raising living standards over the long run (Office for National Statistics, ONS, 2020). Productivity can be measured at a regional level by the amount of value created (or ‘gross value added’) per hour worked.

Figure 1 compares levels of productivity across the UK’s regions. Northern Ireland is one of the worst performing UK regions, at around 14% below the overall UK level, with only Wales and Yorkshire and the Humber performing worse.

Figure 1: Regional productivity (GVA) per hour worked in 2018 (UK=100)

Source: ONS, 2020

This poor performance is a long-standing feature of the Northern Irish economy. The productivity gap existed prior to the Troubles of the late 1960s to the late 1990s, and was evident even before partition – with little sign of convergence during the twentieth century (Hitchens and Birnie, 1989). Research suggests that low productivity growth was responsible for Northern Ireland’s slow GDP per capita growth over the past two decades, and that the nation’s productivity performance has increasingly fallen behind that of the Republic of Ireland (FitzGerald and Morgenroth, 2020; Goldrick-Kelly and Mac Flynn, 2018).

Even before the recent focus on productivity in the UK, improving productivity was recognised as key to rebalancing Northern Ireland’s economy (HM Treasury, 2011). While the importance of productivity for future economic prosperity is known, there is no clear consensus on the causes of the productivity gap or on the policies needed to address it. This reflects the complexity of the productivity problem, but also the role that institutions play in designing and implementing appropriate policy interventions.

Possible causes: economic structure and geographical location?

Two of the earliest explanations given for Northern Ireland’s productivity gap are its economic structure and geographical location – particularly its peripheral position relative to the rest of the UK economy.

The structural view suggests that lower levels of productivity reflect a regional economy that is more highly concentrated in low productivity industries: the argument is that if Northern Ireland had the same economic structure as the UK, the productivity gap would disappear.

This is one of the earliest explanations for the nation’s low productivity, as examined in An Economic Survey of Northern Ireland by Isles and Cuthbert (1957). It is also a view that has persisted over time, with one recent report viewing the productivity gap as ‘largely due to the under-representation of high productivity sectors in Northern Ireland’ (HM Treasury, 2011).

But while the structure of Northern Ireland’s economy does differ from the UK, it is not responsible for the majority of the productivity gap. If it had the same economic structure as Great Britain, this would close just under half of the productivity gap, suggesting that a majority of the gap is due to productivity failings within sectors (Mac Flynn, 2016).

In the past, manufacturing contributed significantly to the productivity gap, driven by the decline of shipbuilding and textiles. Now it contributes positively to overall productivity. As Figure 2 shows, the largest gaps relative to their equivalent sectors in Great Britain are found in agriculture (-52%), finance (-34%), construction (-23%), administration (-20%), information and communication (-20%), transportation (-15%), accommodation and food (-13%), and professional and scientific services (-9%).

Figure 2: NI productivity gap relative to GB by sector in 2016 (%)

Source: Mac Flynn, 2016. Sectors employing less than 1% of the Northern Irish workforce not shown.

Geographical remoteness – or ‘hard peripherality’ – has also been put forward as an explanation for both a higher concentration of low productivity industries and the within-sector productivity gaps. Firms might face higher transport costs for importing and exporting goods, while Northern Ireland’s relatively small domestic market might limit firms’ ability to grow. This could lead to firms having lower productivity within sectors and a higher concentration of low productivity sectors.

Yet despite facing a similar problem of geographical isolation, the Republic of Ireland has higher productivity than Northern Ireland. Transport costs have also been shown not to drive the productivity gap, nor was Ulster’s successful industrialisation during the late nineteenth and early twentieth centuries hindered by the region’s geography (Brownlow, 2013). Where remoteness may harm Northern Irish productivity is through more indirect channels, where distance from markets and knowledge networks may contribute to an ‘ideas gap’ (Crafts, 1995; Brownlow, 2013).

What other explanations are there?

Given that economic structure and geographical location are not the main reasons for Northern Ireland’s persistent productivity gap, other explanations focus on investment, human capital and infrastructure.

During the mid-twentieth century, lower levels of investment in capital goods such as machinery and new technology – particularly in manufacturing – were suggested as a possible explanation for lower productivity. Addressing this shortfall became the focus of policy-makers, and by the 1980s, the amount of capital invested per worker was at least as high in Northern Ireland as it was in Great Britain (Borooah and Lee, 1991). Yet the productivity gap persisted.

Attention instead turned to investment in research and development (R&D). Post-war Northern Ireland failed to attract its ‘fair share’ of R&D facilities relative to the rest of the UK, with inward investment being less focused on developing new ideas (Crafts, 1995). The nation still sees some of the lowest levels of investment relative to other UK regions (Mac Flynn, 2016). It is this failure to invest that has been identified as one of the main weaknesses of the economy (Brownlow, 2013).

A deficit in human capital has been identified as another main source of the productivity gap. Northern Ireland has lower rates of those with tertiary education (such as a university degree) compared with the UK and the Republic of Ireland (FitzGerald and Morgenroth, 2020). It also has the highest proportion of working age people with no basic qualifications (Mac Flynn, 2016).

Two main reasons have been provided for these poor educational levels: too many individuals leaving school early without the skills they need; and a ‘brain drain’ of educated individuals – with almost one-third of graduates born in Northern Ireland subsequently living in Great Britain (FitzGerald, 2019).

There is also evidence to suggest that Northern Ireland has fewer people with management skills – a ‘management skills gap’ – although how much this contributes to the productivity gap is unknown (Bloom and Van Reenen, 2010). Further, a lack of an entrepreneurial culture may play a role, with Northern Ireland having a lower rate of business start-ups than the UK average (Brownlow, 2013).

Infrastructure and connectivity have been shown to be an important driver of productivity growth across UK regions (PwC, 2019). Northern Ireland is highlighted as a region needing greater investment in this area to help drive productivity growth, with underinvestment reflecting a long-run pattern that has harmed productivity (Confederation of British Industry, CBI, 2017; FitzGerald and Morgenroth, 2020).

Why has policy failed to close the productivity gap?

Despite Northern Ireland’s productivity gap being highlighted since the 1950s, public policy has failed to address the issue successfully.

For many decades, public policy focused predominantly on manufacturing, and it made employment levels a priority over productivity. The inter-war industrial policy of the devolved government aimed at minimising unemployment in the staple industries – but this hampered its ability to promote new, higher productivity industries (Jordan, 2020).

Support for industry increased after the war, but it was not until the 1960s that this translated into better economic outcomes. This was due to institutional changes that saw new rules for government ministers adopted by Stormont, which were designed to prevent conflicts of interest affecting the allocation of industrial subsidies (Brownlow, 2007).

The period of the Troubles saw public expenditure used to stabilise the regional economy, with policy-makers attempting to balance economic and non-economic considerations, rather than maximising productivity (Brownlow, 2013). During the 1990s and early 2000s, there was a movement away from subsidising new capital investments for manufacturing, and more emphasis placed on attracting foreign direct investment into Northern Ireland (Brownlow, 2020).

Yet Northern Ireland has failed to emulate the Republic of Ireland’s success in attracting foreign direct investment. The sectors that have experienced the highest levels of foreign investment in the Republic outperform those in the North by the greatest margin (Goldrick-Kelly and Mac Flynn, 2018).

Simply lowering corporation tax in Northern Ireland may be of little benefit, as lower levels of skills and education levels have been highlighted as a key factor hampering the nation’s ability to attract investment (Siedschlag and Koecklin, 2019). Further, the ability of local firms to benefit from the spreading of new ideas (or ‘knowledge spillovers’) from foreign investors has also been shown to be limited, exacerbated by the relatively low level of skills in the wider regional economy (Hewitt-Dundas et al, 2005; Goldrick-Kelly and Mac Flynn, 2018).

Finally, the relatively large size of the public sector has been suggested as a contributing factor in Northern Ireland’s productivity gap by ‘crowding out’ private investment (CBI, 2017). For example, substantial transfers of public money from central government may lead to the public sector competing with the private sector for skilled labour.

A large public sector, with wages linked to those at a national level, may also put upward pressure on the overall level of wages. This in turn may make the region less attractive to firms considering locating there, as wages are not low enough to compensate for lower levels of productivity (FitzGerald and Morgenroth, 2020).

Yet a large public sector is not necessarily harmful for economic performance, as demonstrated by the Nordic economies: rather, it is the effectiveness of public policy and the ability to build a successful private sector that have a greater influence on competitiveness (Brownlow and Birnie, 2018).

Do institutions and governance play a role?

Perhaps the most important explanation for the failure of policy to address the productivity gap is the role of institutions and governance. While the effect of institutions is difficult to measure, it is clear that they play a crucial role in determining Northern Ireland’s long-run economic performance.

Northern Ireland has a unique history in the UK, having had a devolved government for the majority of the past 100 years. During the first period of devolution, there is evidence that financial support was directed towards politically connected firms and industries, rather than those that might increase productivity (Brownlow, 2007; Jordan, 2020). Even with the introduction of direct rule from Westminster in 1972, there is evidence that the effectiveness of industrial policy continued to be limited by the institutions present (Brownlow, 2016).

It is also argued that legacy issues relating to the Troubles and a divided society are linked to lower productivity. These issues include the emigration of high-skilled labour and the failure to attract these emigrants back (FitzGerald and Morgenroth, 2020). There is also evidence that higher levels of long-run health problems linked to the Troubles – such as post-traumatic stress disorder – have lowered individuals’ productivity at work (Ferry et al, 2015).

What next for Northern Ireland’s productivity challenge?

There is no quick fix for Northern Ireland’s long-standing productivity problem, as there is no single cause. This means that policies designed to address these multiple causes need to be coordinated, otherwise their effectiveness will be limited. While policies such as lowering corporation tax may grab headlines, other factors are more important for the nation’s competitiveness and future prosperity.

Further research is still needed on the different aspects of the productivity problem if effective policy interventions are to be designed. Data limitations mean that it can be difficult to identify where productivity gaps exist within sectors, and where causes differ by sector. Some areas are also under-researched. For example, while we know that low human capital is one of the causes of low productivity, we don’t know to what extent a managerial skills gap contributes to this.

Time does not stand still – and there are new challenges emerging for Northern Ireland and productivity. Covid-19 may permanently change working patterns. Brexit, and the implementation of the Northern Ireland Protocol, may fundamentally change the nation’s economic relationships. Major transitions, such as an ageing population and climate change, pose further challenges. This makes it all the more important for policy-makers to address the underlying causes of low productivity.

This blog was first published on the Economic Observatory website and represents the author’s personal views, not those of The Productivity Institute.

David Jordan is currently a Research Fellow at Queen’s University Belfast supporting the Northern Ireland Regional Productivity Forum. He is also a Research Associate at the Queen’s University Centre for Economic History and a Postgraduate Research Associate of the Queen’s University Institute of Irish Studies.