Economy

Lord Mendelsohn Excerpts

Thursday 10th September 2015 Lords Chamber

[Lord Mendelsohn (Lab)]

My Lords, I wish to draw attention to my business interests as recorded in the register.

I congratulate my noble friend Lord Haskel on securing this interesting and useful debate—it has been excellent, and my noble friend gave us an outstanding contribution to start it off. My noble friend is well regarded for his business acumen, but in this House has been a dogged investigator and advocate looking at economic and business matters. His interest in the problems of productivity has led him correctly to highlight one of the great challenges: the central importance of management and leadership.

This has been a fascinating debate that has covered many important issues, but let me take up the invitation from the Minister in Tuesday’s debate to think a little more boldly and see whether we have the right mix of political courage and consensus, and where we might be able to tackle some of the larger issues.

Long-standing government policy has been to pursue growth, fiscal consolidation, employment, skills development, competitiveness, innovation and improvements in productivity—the ingredients of economic motherhood and apple pie. But each Government of different shades pursue the same objectives with different emphases and with different consequences. A long-term fault of all Governments has been an unwillingness to address some of the consequences and to understand that if something is working it might need to change to continue working.

It was frequently argued that one reason that France and Germany were able to develop high performance in productivity was the managerial response to inflexible labour markets. Being able to maximise the use of flexible labour markets in the UK led to less attention being paid to effective maximisation of capital, investment and management.

The optimistic explanation for the UK’s productivity puzzle and long-term underperformance was that after the financial crisis high unemployment both in the UK and the eurozone pushed down UK wages and led firms to put on ice investment that would have led to labour productivity growth and to employ more people instead on flexible terms and low wages. Low capital investment with some growth in demand—even if generated by leverage or an asset bubble—would generate rapid employment growth, cutting the unemployment that helped stall productivity.

But we have not seen an investment-led recovery in the way that we would have expected. There are still some fluctuating weaknesses in demand and uneven performance, and all this before you take into account in more recent times the impact of commodity prices, asset bubbles, and Chinese currency changes and economic performance. I suggest that we are far too reliant on the benefits of flexible labour markets.

It was overly optimistic to dream that as unemployment fell and labour shortages became common, the process would stop and the scale of investment would resume, but it has not yet become a reality. Let us be frank: productivity innovations do not take seven-year holidays.

While the Government’s policy document on productivity assembles much of what is already being done, combined with a few useful incremental initiatives, perhaps their most impactful policy to deal with the productivity challenge has been to transfer the costs of low pay from the state to the private sector with the Chancellor’s living wage proposal. This will certainly mean that businesses will have to respond with more creativity and capability than they have shown to date.

I hope that the Government take into real consideration the impact on people of the changes to the welfare arrangements as well as making sure that they develop the right levers to assist small businesses during this change. More aggressive policy on late payments and payment terms should be part of this.

From these Benches, we are very keen to encourage a broader look at what we need to change, addressing stewardship, ownership, governance, leadership and long-termism and ensuring the effective and proper functioning of markets. It was the Bank of England’s chief economist who expressed concern that shareholder power is leading to slower growth and that business investment has been slower than desirable because too high a proportion of profits has been paid out to shareholders rather than being reinvested. In 1970, £10 out of every £100 of profits were typically paid to shareholders through dividends, but today that figure is between £60 and £70, including the current desire for share buy-backs. Too little cash was available for growth investment and firms risked “eating themselves”, he said.

Mr Haldane’s argument is that UK company law needs re-examination. Too much decision-making power is with shareholders, and the evolution of traders in the public markets means that shareholdings are traded so frequently that they have less interest in the long-term health of the companies than in the trade itself.

Remuneration of senior executives is a matter of some concern. In 1998, the average CEO of a FTSE 100 company earned 47 times the pay of their average worker. Now I believe that we are close to 140 times. All too often, there is a limited alignment of interests. Remuneration packages are devoid of any long-term performance measures or claw-back. I find it amazing to be briefed by new managements on how the previous management undertook some short-term jiggery-pokery and then retired on comfortable terms with a generous pension to be paid in the long term when the costs of the damage done in the short term rest with the company and its shareholders and stakeholders. There is a huge misalignment of where the risks lie and where the upside is. But we must not give the board of directors a free pass. There is some startling evidence that suggests that the place where the short-term culture is more pervasive is on the main board of a company rather than among the executive directors or even the shareholders.

We have no issues with high rewards. We are strongly supportive of proper executive rewards for performance, as we have been for entrepreneurs and business owners, but it is important that all these matters deal with performance—and long-term performance. I strongly endorse the view that productivity improvements are present when there are excellent labour relations and where management’s ability to innovate is part of a joint exercise with staff—where companies, like any good functioning institution, have a sense of purpose and common values. One of my great teachers in business used to remind me that once in the 1960s when an American President was visiting NASA, he met one of the cleaning team. “What do you do?”, he asked. They replied, “I’m helping to put a man on the moon”. This notion of common endeavour is found in our best-performing companies. I feel that sometimes our management skills deployed in the public sector could do well to galvanise the public service ethos across the workforce to achieve more.

There is also a growing weight of evidence that not only is there a link between high levels of employee ownership and superior share price performance, but that it is a long-term trend. The UK Employee Ownership Index tracks UK-listed stocks where staff own more than 3% of the company. If one had invested £100 in the EOI when it launched in 2003, it would be worth £749 now. That compares with £277 from the FTSE All-Share Index—a 472% outperformance, and it has been consistent. High employee ownership produces a positive culture.

Perhaps it is time to set auditors free. In 2007, all 180 European banks that needed government rescues had clean audit reports. Auditors are meant to take a sceptical look at management, but all the recent failures, even since that period, also had clean reports. Audit terms should have a maximum period and once appointed it should be clear what is expected. A separate shareholder council should be established to make the recommendation at the annual meeting to make sure that there is genuine shareholder control of auditors. That would be a major advance in corporate governance.

We also need the policy framework that does not just address market failure but ensures the proper functioning of markets; that encourages competition; that is muscular in its approach to anti-competitive practices; that is tough on business misconduct and fraud; that encourages capital investment and positive corporate cultures; that prioritises leadership, management, science and technology; and that fundamentally addresses the terrible inequalities emerging in our society and the need to establish a more inclusive and sustainable capitalism.

We need and must be a place for disruptors, disaggregators and innovators to thrive, but it must be a place where efficiency, progress and new ways of working and satisfying the needs and requirements of today’s citizens and customers can be addressed. But we need to address the social and regulatory challenges at speed and, thus far, democratic systems do not seem able to meet the social and regulatory challenges in such a way that incentivises change, ensures fairness and manages the consequences and risks of innovation. The market alone cannot manage such transformations.

I assure the Minister that there is a strong appetite for more than the polite ripple of applause that greets most of the Government’s measures. In his speech on Tuesday, the Minister said that many of the decisions to make a step change need further boldness, political courage and close monitoring to ensure that the policies announced are implemented. Growth and productivity rely on the ability to make long-term decisions on framework and infrastructure and, whether it be energy policy or the Heathrow decision, we hold ourselves back with the time we take to make these important decisions. There are always consequences for all choices. Sometimes, right and wrong are more about timing and context. Sometimes, government policy decisions are far more political than economic. The Minister’s undoubted record on these matters offers some hope that we may witness a greater willingness to consider the more fundamental and required changes that our country needs, and I hope that in his comments to follow, we will be encouraged by how his influence may be starting to bear fruit.