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Phil Wallace

Picture of the words Small and Medium Sized Enterprises on a notepad with some lightbulbs sat beside

SMEs and the Productivity Puzzle

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The new report published by the Business, Energy and Industrial Strategy Committee focuses on the potential of small business to make a bigger impact on UK productivity. Small businesses – SMEs – represent 99.3% of the UK economy and have, understandably, become the focus of the productivity debate. Unlocking the productivity puzzle demands better understanding of this highly heterogenous group of businesses, and in turn how low productivity might be addressed.

The wide-ranging variations in productivity of UK businesses have given rise to the now infamous long productivity tail, shown in Figure 1. The tail is complex, and while there are examples of more productive businesses of different sizes and in different sectors across the UK the evidence shows that smaller businesses tend to be less productive on average than their larger counterparts.

At the same time, research by the Centre for Cities contends that this is in fact the ‘wrong tail’, and that the cause or cure to the productivity puzzle is unlikely to reside in the long tail, and instead the emphasis should be on exporting, or tradeable businesses. While conclusions drawn from the research differ as to the cause and consequences of the long tail, focusing on small business has the potential to have a meaningful impact on the long tail, and represents an opportunity for more experimental approaches towards the productivity puzzle.

Figure 1: The UK’s productivity distribution (ONS, 2017)

From Policy to Practice

The UK is an attractive place to start a business and has a generally strong business environment. Government policy relating to aspects of business (e.g. export, finance, employment), as well as to different policy areas ranging from transport to energy, and planning to science have undoubtedly contributed to this. While the ongoing work of Productivity Insights Network aims to rethink the experimental approach of Government policy from silos to the system, the BEIS report also highlights the need to consider the support available to SMEs to help them become more productive.

Despite productivity being a political priority, there are not many small businesses that think in terms of productivity. Instead, the focus tends to be on profitability, if they have their sights set beyond their immediate survival. As the BEIS report notes, there is a need to raise the ambition of entrepreneurs to grow and scale their businesses. Another related aspect raised in the BEIS report, that was announced by the Chancellor, Philip Hammond, in the 2018 Budget committed to support leadership, business development and technology adoption for SMEs.

The BEIS report references the nature of and need for business support. However, the What Works Centre for Local Economic Growth found that of 23 evaluations on business advice that met the minimum standards 14 had a positive effect on at least one business outcome, 5 had no effect, and 4 had mixed findings. The evidence from this systematic review offers guidance on how to develop programmes and improve policy effectiveness, while also emphasising the need for clearer objectives against which to assess and evaluate success and value for money.

This is likely to become more pertinent in the preparation of Local Industrial Strategies, which aim to increase regional economic productivity. In order to redress the spatial variations in regional productivity, SME policy typically pursues locally-led approaches to improve growth and productivity. If Local Industrial Strategies are to be effective, they do need to be local in more than name – they will require the requisite autonomy and resources to design and deliver local solutions appropriate to the sectoral and firm profiles of those localities. Moreover, these solutions need to meet the challenges of the small businesses that they seek to support on their own terms if they are to improve both the businesses and ultimately the place where they are based. This means adopting strategies that are sensitive to the diverse needs of firms of different sizes and that incentivise growth across a spectrum of dimensions.

In many respects the BEIS report, and those aspects that relate most prominently to the productivity of small business as oppose to the performance, are not radical. This is for the most part reassuring. However, the next challenge in unlocking the productivity puzzle is developing and implementing effective local responses through the Local Industrial Strategies that are accepted and empowered by Central Government. Achieving this will demand the creation of new governance institutions that are accountable and able to deliver, but given the plateau in productivity more experimental and creative solutions are required if we are to meaningfully address the productivity puzzle…

Tim Vorley and Jen Nelles
productivity@sheffield.ac.uk

 

Productivity in SMEs: Management Practices or Effective Leadership?

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As the UK has started to grapple with the challenge of stagnant productivity growth over the past decade, increased attention has turned to questions of how to raise productivity in the small and medium enterprise (SME) sector. This is one important element of the work of the Productivity Insights Network. SMEs are highly diverse and, while they account for three-fifths of UK private sector employment and just over half of UK business turnover, the range includes both ‘frontier’ performers and low productivity laggards.

A recent McKinsey Global Institute report provides a very comprehensive national-level analysis, highlighting both issues of changing demand patterns and patterns of business investment and innovation, as well as ‘deep dives’ into a number of key global business sectors. But the McKinsey analysis focuses very much on the significance of the big corporates and has relatively little to say about the importance of innovation and productivity in the small business sector. This is odd given the numerical importance of SMEs and the contribution of SMEs to the economy.

Influential recent research has focused on the importance of effective management practice as a driver of productivity. A recent survey conducted by the UK Office for National Statistics, covering 25,000 UK enterprises of all sizes across manufacturing and services, computes a management practices score (normalised as an index between 0 and 1) from reported use of a range of practices in four key areas of use: continuous improvement (lean) techniques, key performance indicators, management targets and employee performance. The key finding is that an improvement in the score of 0.1 in a given business is associated with a 9.6% improvement in labour productivity. However larger firms, and foreign-owned firms are much more likely to report higher use of management practices that smaller, and family-owned ones.

I want to highlight two particular issues relating productivity improvement in SMEs, in the particular context of small (below 50 employees) rather than medium sized businesses. The first concerns the importance of successful SME leadership. The second concerns the ‘mediation chain’ through which business practice translates into better productivity.

On the first of these, my own experience is that SMEs vary enormously in their attitudes to innovation and growth, and in the leadership capacity of their owner-managers. This is something that UK policy officials and statisticians in BEIS and ONS are beginning to recognise and investigate, and is central to the recent UK Industrial Strategy. Evaluation of hands-on working with SME owner-managers suggests that productivity improvement may be as much to do with the personal skills, attributes and mind-set of the business leader. It is only through improvements in leadership skill that SMEs are able to introduce effectively those changes in management practice, as seen in the ONS analysis, that lead to better productivity. We can’t assume, in the absence of any improved ability on the part of the business owner, that ‘box ticking’ a range of good management practices alone will enhance productivity.

On the second issue, my own recent research undertaken with my colleague Dr Meng Song at Cardiff Business School suggests the following. For the smallest of SMEs, it is the need to innovate, often to take advantage of emerging international market opportunities, that leads to productivity improvement. Yet in the recent sample of UK micro-businesses analysed, only 11% of micro-businesses (under 10 employees) have brought to the market new product, service or process innovation in the last three years, and only 17% derived any sales from exporting. However, the data suggest that it is the self-imposed discipline of selling internationally that necessitates innovation and leads to improved productivity. So management and leadership advice and support that promotes innovation and encourages exporting is most likely to yield better productivity for these businesses.

Both of these issues offer pointers towards why there is such a diversity of performance across the SME sector. They also suggest that the design of appropriate support for productivity enhancement in small businesses is challenging. It needs to be targeted carefully towards business owner-managers who have both an appreciation of the market opportunities they face, and a realistic appreciation of how and why their own management and leadership practices need to adapt to address those opportunities.

Andrew Henley
henleya@cardiff.ac.uk

A Day at the ESRC Festival of Social Science

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As we set up our stall against the beautiful backdrop of Sheffield’s Winter Gardens, we weren’t sure how well passers-by would react to an offer to discuss the UK’s productivity puzzle on their Saturday morning. We needn’t have worried. As part of the ESRC’s Festival of Social Science we were challenging the general public to pick the top 3 issues they think we should be focussing on. After only a brief introduction to the productivity puzzle and our work with PIN, we were delighted with the depth of conversation that soon flowed.

First to gamely accept our challenge was Peter, a former steel worker. After posing some excellent questions of his own around how productivity can be measured when it comes to intangibles (if you’re reading, Peter, see here…) the conversation turned to the decline in the skills to make things (our work around education and skills is ably led by Dr Maria Abreu). Reflections on a decline in manufacturing skills became one of the key themes of the day. Perhaps not surprising, considering the region’s history.

Another common theme arose in variations of a question posed to us, along the lines of ‘why do you want to make people more productive? Doesn’t that just mean making people work harder?’. And is there a more important question? Indeed members of our invaluable International Advisory Board have always provided a strong steer that our work be underpinned by principles of wellbeing and a vision of inclusive productivity. However, it was a pertinent and welcome reminder to receive the same steer from the Sheffield public.

It was a pleasure to see parents engage their children in our challenge and do our work for us in breaking down the different themes that we are looking at. Many of the children who attempted our challenge were of the firm belief that “inventing things!” is our sure-fire route to success (and they might be onto something – see Professor Robert Huggins’ analysis of the innovation-productivity debate). At the other end of our participant demographic, many gravitated to the area of health and wellbeing (led by Dr Leaza McSorley). More than one opened with the rueful refrain “well, I’m getting on a bit, so…”.

By the end of the day, skills & education, work & employment (the theme led by Professor Kirsty Newsome at Sheffield), and health & wellbeing were ranked as the most important by the surprising number of individuals who took up our Saturday challenge. The real value of the exercise for us was in the rich stories that were shared in the process, bringing to life the themes of our work and strengthening our desire to find productivity insights that are accessible for all.

Phil Wallace
Impact and Knowledge Exchange Officer
Productivity Insights Network
p.wallace@sheffield.ac.uk

Returning to Work and Thriving at Work After Sickness Absence Due to Mental Health Problems

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By Professor Karina Nielsen, Principal Investigator on a Pioneer grant funded by the Productivity Insights Network

One overlooked aspect of solving the productivity puzzle is how we can support employees with mental health problems return to work to stay and thrive at work after a period of long-term sick leave.

Common mental disorders (CMDs), such as stress, anxiety and depression are costly to individual, their families, organisations and society as a whole. In 2016/2017 it is estimated that 12.5 million working days were lost due to CMDs. During this period, each individual on sick leave due to CMDs took an average of just under 24 days off.  A recent report found that the cost of mental health problems to the UK economy is £34.9 billion a year or £1,300 for every employee in the UK economy. Despite what might be expected, it is not the cost of actual sickness absence that is the highest but the loss of productivity; people being at work and unwell, also known as presenteeism, or people leaving their job as a result of poor mental health.

A lot of the current research has focused on supporting people with CMDs return to work but the figures above tell us that we also need to focus on supporting workers once they have returned. These workers often suffer from reduced work functioning and are less productive even if they are no longer so ill they need to be signed off work. Another challenge is that sometimes people return before they are ready because they are worried they might get laid off; this of course also means they struggle to be productive and thrive at work

Although there are no official figures in the UK, data from other countries show that relapse is frequent, as is turnover. Furthermore, over time workers who have been on sick leave due to CMDs also have a higher risk of being laid off due to reduced performance. We therefore need to understand what can be done to support workers with CMDs once they have returned to work after a period of sickness absence. Support includes not only helping them stay at work but also to achieve their previous performance levels and help them thrive at work.

Support for workers may come from resources outside work such as a healthy life style, support from family and friends, continued support from their GP, from local charities and community support and indirectly through the availability of affordable housing and childcare. Organisations can also do a lot to support workers with CMDs returning and thriving at work so that they can reach previous levels of productivity. Resources that organisations can offer include work adjustments, making sure that workers return to a safe environment where colleagues are not afraid to ask questions but at the same time accept that work adjustments may be needed. Line managers play a big role in making work adjustments, and adjusting these adjustments over time as the returned worker’s needs change. HR policies and practices such as flexitime and working from home policies can also help.

How we can support workers with CMDs to be productive and thrive at work is what we want to explore in the project Returning to Work and Thriving at Work after Sickness Absence. If you are interested in the project, please contact Karina Nielsen k.m.nielsen@sheffield.ac.uk

For more information, see:

http://www.hse.gov.uk/statistics/dayslost.htm

https://www.centreformentalhealth.org.uk/news/mental-health-problems-work-cost-uk-economy-ps349bn-last-year-says-centre-mental-health

PIN research themes

Productivity Project Fund – Round 1 (#pieceofthepuzzle campaign)

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We are pleased to announce the successful projects funded from the Productivity Projects Fund in Round 1.  The ‘#pieceofthepuzzle’ campaign challenged teams of academic and non-academic partners to take a multi-disciplinary social science approach in finding fresh insights into the UK’s productivity puzzle. Applicants were encouraged to draw on the PIN evidence reviews, which highlight gaps in our current understanding of UK productivity.

An overwhelming response was received to the call and the PIN team want to thank all of the multidisciplinary teams that applied for the work that they put in. The award panel was greatly impressed by the quality project proposals received. Four ‘Pioneer Projects’ were funded up to £50,000 each and eight ‘Small Projects’ were funded up to £10,000 each.

Projects start work in September 2018. Pioneer Projects will take around ten months to complete and Small Projects, four months. See below for details of the successful multi-disciplinary projects and what they aim to achieve.

Pioneer Projects

•Professor Jillian MacBryde (University of Strathlyde) will lead a project entitled “Productivity – what do UK manufacturers really think?”
•Professor Duncan Maclennan (University of Glasgow) will lead an mulit-disciplinary team attempting to provide a new approach to addressing how housing outcomes impact on productivity. The study has the potential to offer a better conversation about productivity and a new narrative for housing policies.
•Professor Karina Nielsen (University of Sheffield) will lead a project entitled “Returning to Work and Thriving at Work”
•Dr Cath Sleeman’s (Nesta) team will be working on a novel approach to measuring skills mismatch using online job advert data, skills supply data from the UK’s Labour Force Survey and a skills taxonomy developed in previous research. 

Small Projects

•Alex Beard (CFE)will lead a small project  looking to advance our understanding of the relationship between non-cognitive skills and productivity.
•Dr Tom Forth (ODI Leeds) leads the project “Real Journey Time -Real City Size” which aims to make novel use of open data to estimate the productivity in the UK’s large cities that is sacrificed by poor transport infrastructure.
•Professor Sara Cantillon (Glasgow Caledonian University) leads the project “The Divergence of Productivity and Pay?” which will deliver an empirical analysis of the links between pay, pay inequality, economic growth and productivity.
•Professor Matthew Gorton (Newcastle University) leads a team looking at to what extent regional productivity differences are a result of structural issues or whether after controlling for profile variables, does the productivity of firms in the Northern Powerhouse, Midlands Engine and rural locations continue to lag the Rest of England and urban areas.
•Professor Anne Green (University of Birmingham) and her project team will be working on “The UK Futures Programme: a longer-term evaluation”. It will inform policy on the ‘hooks’ which are effective in engaging businesses in productivity, which interventions enhance productivity and the sustainability of different approaches.
•Dr Wendy Martin (Brunel University) will be leading a small research project which aims to co-design innovative solutions to enhance the wellbeing of the workforce in SMEs.
•Professor Martin Spring (University of Lancaster) leads a study examining the links between the measures that drive management decision and action in SMEs, and the productivity outcomes that result, cutting across various themes identified in the Evidence Reviews.
•Dr Rob Wapshott (University of Sheffield) will be leading an multidisciplinary team with the Advanced Manufacturing Research Centre (AMRC) in their project “Advanced Manufacturing Management”, exploring the realisation of productivity through effective talent management in high-value advanced-manufacturing SMEs.

Thank you again to all who applied. We look forward to keeping you updated on progress of the both the Pioneer and Small Projects as they strive to find their own #pieceofthepuzzle.

The PIN Team

The Role of Local Large Firms in the Performance of New Firm Start-Ups

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Martin Andersson

Professor of Industrial Economics
Blekinge Institute of Technology (BTH)
Karlskrona, Sweden

Policies to foster jobs, innovation and productivity typically set SMEs and start-ups centre stage. This is not surprising. On average, SMEs account for about 70 % of jobs and 50-60 % of value-added in the OECD area (OECD 2017).[1] Young firms and start-ups are also shown to create a significant fraction of new jobs and they often play an important role in driving innovation and experimentation with new technology and business models. Accordingly, SMEs and start-ups are often the main policy targets. Promoting SMEs to grow and scale-up and stimulating new entrepreneurial and innovative firms are high on the policy agenda in virtually every OECD country.

But even if SMEs and startups are a main policy target, it is important to avoid a too one-sided focus. The fact that young firms and startups are the most important in terms of e.g. direct net job creation, does not mean that other firms are unimportant. For example, the entrepreneurs that start and run these firms come from somewhere and may have gained their managerial skills, business knowledge or ideas while working in a large firm. Likewise, the local presence of established firms, such as Multinational Enterprises (MNEs), may be critical for SMEs to find people with the business experience or the knowledge of foreign markets that they need in order to expand and scale-up. Furthermore, many established large firms may be important customers for smaller firms as well as young firms. SMEs and startups do not emerge or operate in isolation but are part of an interacting system that includes large established firms. The industrial dynamics that drives innovation and productivity is in fact characterized by a significant interplay between large firms and new entrants as well as SMEs.[2]

As a case in point, we have analyzed the question of where new firms that survive and grow come from in the case of Sweden.[3] This is an issue of importance because new firms are highly heterogeneous and most firms exit shortly after they are founded or do not grow. Still, the positive effects of startups on the economy appear to be largely attributable to new firms that survive and grow.[4] Knowledge of from where such firms come helps our understanding of the relevant contextual factors in new firm formation that drive jobs and productivity. Our findings suggest that in Sweden, large established firms, in particular MNEs, are an important source of new successful firms. Furthermore, the dynamics of this process typically play out at the local level.

First, we document substantial differences in survival across types of new firms. The figure below distinguishes between five types of new firms. Spinoffs are new firms where the majority of employees come from the same parent firm. If the parent exited in the same year as the spin-off, the spin-off is classified as a pushed spin-off; otherwise it is classified as a pulled spin-off. Non-employed are new firms created by people that were unemployed prior starting their firm. Divestitures are large new firms assumed to be reorganizations of activities that previously took place at an incumbent firm. Other new firms is a residual category.

Source: Andersson and Klepper (2013).

What is clear from the figure is that pulled spinoffs systematically outperform all other types of new firms in terms of survival and that the pulled spin-offs stand out as the best performers; firms with all employees previously unemployed stand out as the worst performers; with pushed spin-offs and divestitures performing somewhat better than other new firms. Divestitures aside, spinoffs show the highest survival rates among all types of new firms.

Second, our econometric analyses further show that even after controlling for several characteristics of new firms, such as initial size, human capital, industry, we find that spinoffs still show significantly higher survival rates as well as employment growth. Another result is that spinoffs with large parents and that are MNEs also perform better, which may reflect the fact that MNEs in general have richer tangible and intangible resources that founders of spin-offs can draw upon.

In summary, our results for Sweden are highly supportive for the argument that “incumbent firms are natural training grounds for the next generation of entrepreneurs” (Klepper 2011, p. 145) and that “the breeding grounds for entrepreneurial firms are more likely to be other entrepreneurial firms” (Gompers et al. 2005, p. 612).

The data we used in these analyses also illustrate that the spinoff process is highly localized in space. The table below presents data on the fraction (in percent) of spinoffs in Sweden during the period 1993–2005 that locate in the same municipality and region as the parent firm. The original data are based on 15,103 spinoffs with two or more initial employees.

Fraction of spinoffs locating in the same municipality or region as the parent firm.

Same municipality as parent firm72%
Same region but not same municipality16%
Sum88%

As much as 72 percent of the spinoffs during the period located in the same municipality as the parent firm, and another 16 percent remained in the same labor market region although not in the same municipality. Thus, 88 percent of the spinoffs located in the same “home region” as the parent firm.

Taken together, these results suggest an important relationship between existing firms and business dynamics through entrepreneurship. Much empirical evidence speaks in favor of the argument that large resourceful firms, such as MNEs, may play a significant role in the local eco-system of entrepreneurship for example by (involuntarily) acting as “anchor-firms” that accumulate and train human capital in a region. Policies aiming to foster local productivity and job creation should recognize the indirect role that established firms play in the entrepreneurship process. A too narrow focus on SMEs alone misses much of what is crucial.

[1] https://www.oecd.org/mcm/documents/C-MIN-2017-8-EN.pdf
[2] https://link.springer.com/article/10.1007/s11187-018-0072-y
[3] https://academic.oup.com/icc/article/22/1/245/882366
[4] https://link.springer.com/article/10.1007/s00191-012-0301-5

Shovel ready, but for what?

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Whenever economic setbacks occur, from the closure of a small town manufacturing plant to an event on the scale of the Global Economic Crisis, the clarion call for more infrastructure investment to help stimulate recovery can be heard almost immediately. Business leaders inevitably announce that there is an “urgent need” for investment in whatever projects are deemed “shovel ready”, and politicians keen to have ribbons to cut are usually only too happy to oblige, budget permitting of course.

The snag is that the evidence base on the links between infrastructure investment and the economy is inconclusive, and it is far from clear how spending money on infrastructure actually improves economic performance in the real world. Whilst macroeconomic reviews claim links between the overall quantum of investment with growth at country level, finding evidence in the real economy, in real places and in real firms about the causal links that explain how such investment promotes better economic performance – by enhancing productivity for example – is usually much more difficult. Indeed, the last major independent review carried out for the UK government on the impacts of transport infrastructure on economic performance, that by the former Chief Executive of British Airways Sir Rod Eddington, set out quite unambiguously that in advanced industrialised countries with mature infrastructure systems, the potential for subsequent investment to achieve the often exaggerated claims for economic stimulus is much less than is commonly assumed.

Yet the a priori belief that infrastructure investment will lead to improvements in economic performance remains resilient. Consider the ways in which the High Speed 2 railway project is being sold to an often sceptical public; that it will ‘rebalance’ the economy between north and south. Leaving aside the rather obvious yet often wilfully ignored point that transport infrastructure is – sometimes literally – a two way street, and that economic activity can move in both directions as relative accessibility changes, the idea that any single project, however large, can make a substantive impact on an annual GDP shortfall measured in the tens of billions is fantastical. Much of the same wishful thinking can be discerned in the claims made for the criticality of high speed broadband: very high download speeds might help your choice of evening entertainment on Netflix download more quickly, but for many if not most businesses, a good enough speed to facilitate a website and/or electronic payments coupled with dependable service reliability is what is required.

Then there is the issue of whether we can measure the impacts of infrastructure investment properly in the first place. For decades, most of the value released by transport infrastructure improvements has been assumed to derive from improvements in travel times, underpinned by the assumption that travel time is completely lost to productive activity. Major schemes with substantial pricetags, and hence significant opportunity costs given the competition for scare public funds, have often been justified on the basis of some really quite small time savings, the impacts of which we don’t fully understand. For example, if a rail commuting journey is reduced from one hour to 45 minutes, how do the people that use the service every day react? Does that 15 minute saving translate into more work at the office and therefore more economic output for the economy? Does it make them more likely to be able to maintain their commute over the long term so that the labour market works more efficiently? Or do they just stay in bed 15 minutes longer in the morning? And even if they do just that, does their wellbeing improve enough as a result to make discernible differences to their health, so that they work more productively when in the office? The transformation of the travel experience by the almost universal adoption of the smart phone, so that people can either work whilst mobile or spend the time satisfying more social needs to keep in touch with others, adds a whole other dimension to the complex debate on travel time that researchers are actively exploring.

So, what should policy makers do when considering the role of infrastructure investment as part of government’s toolkit to improve the economy? The most important thing is perhaps to acknowledge openly the high level of uncertainty about the causal mechanisms linking infrastructure investment such that a range of options for action is thought through carefully. It is entirely possible for a coherent case for infrastructure investment, including the very largest schemes, to be constructed so long as proper efforts are made to understand its actual impacts in the places it occurs and on the people and firms it is supposed to support. So the next time the call for the shovels to be readied rings out, the question should be “yes, but for what purpose?”.

By Professor Iain Docherty, PIN Co-Investigator and Professor of Public Policy and Governance at the University of Glasgow

Photo credit (featured image): Jevanto Productions/Shutterstock.com