Yahoo Finance Jagjit Chadha: Why investment is necessary to stop the economy from ‘withering’
For an economy with one of the world’s largest financial centres, it is perhaps a little surprising that a lack of investment is widely regarded as the most important factor holding back economic growth.
Report after report has found that the UK invests too little as a share of national income, often lagging behind other rich economies. Boosting investment is, therefore, a crucial part of Labour’s pitch to make the UK the fastest-growing economy in the G7.
There are two sides to the investment conundrum. On the one side, there’s investment from the private sector and on the other investment from the state itself. Britain performs poorly on both.
Jagjit Chadha, director of the National Institute for Economic and Social Research (NIESR), told City A.M. that lifting investment, both public and private, was crucial for stopping the UK economy from “withering”.
Political uncertainty, Brexit and onerous regulations have all been cited as reasons firms do not invest, but Chadha said one often overlooked reason was regional weaknesses in the financial sector itself.
“This is a critical part of the problem,” he said.
Many small businesses, particularly those outside of London and the southeast, struggle to access the finance needed to make investments. Sometimes this is put down to a lack of ambition on the part of SMEs, but Chadha doubted this explanation.
“We talk to businesses that will say that the administrative burden that goes along with getting loans is very high. They’re typically asked to put their business up as collateral and seem to have to provide high levels of reporting if they take out debt,” he said.
“This all suggests there’s an informational asymmetry, that if the financial sector does not know enough about the firm, it is very hard for smaller firms to raise money,” he said.
This problem has been getting worse in recent years. According to the Impact Investing Institute, the success rate for SME applications for bank loans fell from 80 per cent in 2018 to only 50 per cent in 2023.
These informational problems arise partly due to the concentration of the financial sector in London. “The domestic financial sector isn’t liquid enough once you get outside of London,” Chadha said.
“There’s some evidence suggests there’s a kind of 90-minute threshold: if the firm is more than 90 miles away from London, it is more difficult to raise money, which further embeds diversity or regional problems”.
British cities outside London underperform their European equivalents, and this lack of regional capital is part of the reason why.
The Resolution Foundation estimates that if Manchester and Birmingham’s productivity gap compared to London was narrowed in line with Lyon and Toulouse with Paris, then gross value added (GVA) would increase by almost £20bn a year.
Labour’s first pledge as part of its policy programme for the financial sector was a promise to scale up “regional financial centres”. But to make real progress on regional growth, Chadha argued there also needed to be government investment, particularly in infrastructure.
“The lack of regional performance in the country would start to be addressed if we had better infrastructure for getting around the country, which hasn’t really been tackled,” he said.
All the chopping and changing on public investment since 2010 – best seen in the debates over HS2 – has been a major issue for businesses. Why would businesses invest on the basis of government plans which might not ever come to fruition?
“A large, sustained and believable commitment to public infrastructure to the order of four per cent of GDP per year every year will be the best way to crowd in private investment,” he argued.
The latest figures suggest public sector investment will amount to around 2.4 per cent of GDP in 2024-25.
Labour has pledged to introduce a National Wealth Fund to help catalyse private sector investment. It will invest £7.3bn to accelerate the green transition and will be required to crowd in at least £3 from the private sector for every £1 invested.
But Chadha worried it would not be big enough to make a difference. “If it’s just another small bank like the British Business Bank or UK Investment Bank then it’s not going to be a large enough entity to make an international splash and make a real difference,” he said.
