What exactly is Scotland’s active’ economy, and how well is it doing?

We’re constantly bombarded with “official GDP numbers”. But they’re being increasingly challenged as an accurate reflection of economic activity in Scotland.

For example, they include data on public services, education, health, policing, the property sector and commercial rents and mortgages.

These are elements that can be either difficult to measure or lumpy and erratic. And they can be hard to gauge in terms of outputs. Removing these elements allows for an alternative, potentially more accurate, view of the underlying performance of the economy.

Economist Professor John McLaren (pictured) has been working on an alternative measure that exclude the big public services and commercial property behemoths.

It’s important work – and well worth undertaking to improve our understanding of the dynamics underlying business growth, investment, expansion and contraction. .

He’s arrived at an index of Scotland’s “active economy” comprising the basic elements of private sector, day-to-day, activity, including manufacturing and non-financial services – the ‘active’ elements of the economy, rather “than the ‘passive’ (public services) or ‘investment’ (construction) elements.

The new indicator accounts for just under half of the economy. It is a reflection of regular (i.e. non-investment) activity by the private sector. As such it offers a good guide as to the underlying strength of the economy

And while it’s been showing reasonable progress in recent years, it’s lagging the pace recorded in a similar index for the rest of the UK.
Using the new ‘active economy’ indicator, he finds the 2008-09 recession is more prominent, as it excludes the more protected public services sector. In contrast, post-recession growth has been faster as the spending squeeze public services slowdown is omitted.

Between 2008 and 2015, he finds that the ‘active economy’ of Scotland grew by 6.6 per cent, just a little faster than for the economy as a whole. However, at the UK level the ‘active economy’ grew by “12 per cent.

Since the start of 2015 the ‘active’ economy has marginally declined in Scotland, whereas for the UK it has grown by more than four per cent.

So what exactly is the problem with the main GDP measure and why do we need to have a separate measure alongside it? John McLaren argues that it is often difficult to measure the output of public services.

With education data, for example, “increases in output may be more associated with gains in the quality of school leavers, rather than increased numbers, but the former can be difficult to measure.

“With regard to the NHS, some output measures, like the number of operations, can be measured but in many areas such measures are not readily available. There may also be problems when comparing public services output across the UK. For example, between 2009 and 2015, output in health & social work grew by over 17% in the UK but by less than 6% in Scotland.

“This degree of divergence suggests that productivity in the NHS in the rest of the UK has been consistently higher than in Scotland, although this is difficult to confirm. As a result, doubt remains over the relative consistency and robustness of the data for Public Services, both in absolute terms and relative to the UK”.

“And how do we best measure financial services output and “the value added by various obscure or complicated banking activities? There is also the further difficulty of allocating value added by, say, RBS across the constituent countries of the UK.”

As for the real estate sector, “while this sounds like it might apply to Estate Agents and the like, in fact it applies to every household.

National Accounts treats the housing sector as producing an output that is equivalent to what the rental value would be of every house, regardless of whether it is owned outright or rented. As a result, this sector accounts for around 10% of the economy, even though very little actual economic activity takes place”.

And then there are the problems in measuring the construction sector – “highly erratic in Scotland since 1998, which is as far back as published data goes. This is in part due to the fact that Construction relates not just to housing, which in itself can be highly cyclical, but also to very large infrastructure projects, like the Forth Replacement Bridge.

The recent slowdown in Scotland, says McLaren, “is not unprecedented. For example the ‘active economy’ fell by almost one per cent from 2011 Q4 to 2012 Q3, while the UK ‘active economy’ continued to grow.

“Nevertheless, for Scotland, the current, essentially flat-lining, performance remains a worrying development that has lasted for six quarters.

“With negative influences from falling Construction, the North Sea slowdown and Brexit worries likely to affect Scottish output in the short to medium term, the prospect of continuing slow-to-no growth in the economy remain high.”

McLaren’s work is thoroughly deserving of further study and research to help improve our understanding of Scotland’s dynamics. Perhaps a private sector organisation or business could sponsor a quarterly “active economy” index with commentary on its direction and pace of change.

And analysis of those GDP numbers might usefully be extended in due course to cover questions on how to measure the rapid expansion of the digital economy, and the extent to which IT – often regarded as a job destroyer – may have acted as a creator or employment.

Moreover, problems have arisen over the blurring of boundaries between what is a “manufacturing” business and “miscellaneous services” – for example, is a company making metal-based cranial implants for the health sector counted as a ‘manufacturing’ business (‘metal basher’) or a health service activity?. We need sharper pointers – and commentary – to keep pace with rapid change in our economy.

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