Productivity is a crucial economic benchmark for countries around the world. Improving it means companies can produce more without needing to increase staff numbers. This leads to growth and the ability to re-invest capital into their business and employees, to accelerate the wider economy.
Unfortunately, the UK has faced a significant productivity slowdown in recent years, falling behind neighbours and peers (such as France, Germany and the US) alike. But what’s driving this? Given small firms make up such a large proportion of the UK’s business landscape, their progress is inextricably tied to national productivity.
Our latest report, Small business productivity: Trends, implications and strategies, examines small business labour productivity in the UK, Australia and New Zealand. While it identified that productivity is below pre-pandemic levels for all three countries, the UK is lagging further behind Australia and New Zealand – and the productivity gap is only widening since the UK left the European Union.
Although small businesses can’t overcome the prevailing national and global economic forces on their own, understanding what owners and operators can do each day to minimise their impact, can play a role in improving the UK’s economic position and ensuring they don’t fall foul of negative market conditions.
What is holding back productivity?
Unsurprisingly, labour productivity suffered a steep decline during lockdown periods in 2020 and 2021. Our data shows UK small business productivity plunged from an average of £41/hour before the pandemic to £36.20/hour in July 2020. This shift was likely driven by small business employers still issuing the usual payslips to their staff to ensure they qualified for wage subsidy schemes, meaning the output from the business was much lower, or non-existent.
What’s concerning is that after an initial recovery to £41.80/hour in August 2022, small business productivity fell back down to £38.80/hour in December 2023. This could be in part because UK small businesses had to contend with uncertainty surrounding Brexit. While it is difficult to directly attribute productivity decline to this event, the data shows a widening gap between the UK and Australia and New Zealand since the UK left the European Union in January 2021. At the same time, the UK has experienced a period of political upheaval, with three different Prime Ministers since 2019 who all brought policy changes with them. All of this suggests that, at the very least, uncertainty has affected small business productivity.
The result of all these pressures means it is becoming increasingly difficult for small firms to offset fast-changing economic conditions with a robust plan. As a result, it becomes harder to generate profit, employ staff and pay competitive wages, and keep prices low for customers.
Overcoming obstacles to growth
The national narrative might have you believe that the difficult period for small business owners, which has admittedly resulted in some closures, means these firms are dragging down national productivity. In fact, our data shows that since the latest COVID lockdown period, small business productivity growth has exceeded the broader national average.
One explanation for this is the small firms measured by Xero are likely to be more digitally savvy than the average business owner, or were nimble enough to embrace digital tools during the pandemic, which has led to higher productivity.
Technology might not be entirely to credit for this, but a key part of improving productivity is about optimising the tools and processes that underpin the business. This comes in a variety of forms. Like a carpenter can be much more efficient with an electric drill than a hand drill, a business could also boost productivity with the right digital tool, whether that is a programme that cuts down the double-handling of information, or an accounting system that can improve payment times and cash flow.
Inertia is also the enemy of productivity. Charles Kettering said ‘if you have always done it that way, it is probably wrong’ – and he has a point. Technology is changing the world in so many ways and while familiarity might prevent short-term stress, certain processes are likely to become less effective as the context around them changes. It’s healthy to periodically evaluate processes to ensure they are operating efficiently and maintain productivity levels.
Finally, people are the cornerstone of most small businesses. Treat them well and ensure you are using them effectively. Simple steps like providing clear job descriptions with roles and responsibilities prevent duplicating work or work going uncompleted. As processes inevitably change, offer employees the tools and training to help them. This will reduce any wasted capital investment and keep staff happy.
Labour productivity has been a big issue in the UK for a long time. However, small businesses are in a prime position to gain the most from minimal changes. Unburdened by legacy technical debt, the re-invention of a process or the right tool can make a big difference to them and the national economy.
