A national investment bank could support enterprise and be a path to more sustainable growth

Since the financial crisis, economic growth has mainly been driven by the combination of a larger workforce and greater consumer spending. This is unsustainable. For growth to be experienced by everyone and to be sustainable then each worker will need the ability to produce and earn more.

Indeed, the IMF noted in its latest report on the UK economy that ‘over the medium term, growth prospects will depend on the extent of recovery of labor productivity, which has been very low since the financial crisis’.

On this front there has been some positive news. The latest ONS figures showed that the second half of 2017 saw some of the fastest growth in productivity since 2008.

For this to continue and to counterbalance the years of productivity stagnation, the UK needs to start investing more in innovation and the adoption of new, more efficient technologies. This in turn allows each worker to produce more each hour and, in turn, boosts the economy.

In particular, the UK needs to make sure there is investment in start-ups and small- and medium-size enterprises (SMEs) which, accounting for 60 percent of private sector employment and almost half of private sector turnover, are essential drivers of productivity.

SMEs have suffered from a notable lack of investment since the financial crisis as they are far more reliant on banks for accessing finance and banks have increasingly turned to more secured lending, such as mortgages. As a result, net lending to small businesses has declined year-on-year since the financial crisis and net lending to medium-sized businesses only started to pick up again in 2014. In 2016/17, one fifth of SMEs were still unable to access suitable finance.

Across Europe, and indeed most of the world, governments of all political stripes have realised that creating a stable investment environment for SMEs is essential for sustainable productive growth. Various countries have set up national development and investment banks with a mandate to invest in SMEs for this purpose. In Closing the Finance Gap, a new Civitas report, we highlight some examples. Germany’s KfW for instance, had in 2016 a financing volume of €81 billion, of which €21.4 billion was for the promotion of SMEs. The US Small Business Administration, in another example, approved lending to small businesses of almost $29 billion of lending in 2016.

It is not just Germany and the US. National investment and development banks are incredibly common. France has the Banque Publique d’investissement (BPI) which injected €24 billion into its economy in 2016. Spain has the Instituto de Credito Oficial (ICO) which provided €5.4 billion of investment in 2016, having provided €61.5 billion to the Spanish economy between 2012 and 2016. Italy has Cassa depositi e prestiti (CdP) which lent €30 billion in 2016.

In comparison the UK government currently supports SMEs through the British Business Bank, which provided only £0.7 billion in new commitments in 2016/17.

The UK government must realise that, by comparison, this is not enough to create the sustainable investment environment needed by SMEs and is certainly not enough to seriously address the problems of productivity.

Unlike the British Business bank, Germany’s KfW is able to provide a significant amount of support for SMES by funding itself through bond issues and, as it both consistently returns a small profit and has a federal guarantee, it is considered one the safest banks in the world. It therefore operates at no on-going cost to the taxpayer and is able to borrow at competitive rates, which are passed onto the SMEs.

There is no reason why the government could not seek to replicate such an institution in the UK. In fact, if the government is going to seriously tackle the on-going challenge of low productivity then they should seriously be examining how best to introduce such a bank, either as a new institution or through a substantial reform of the British Business Bank.

In Closing the Finance Gap we have done just this and, having considered the successes and limitations of several institutions, their structures, their mandates and their funding models, have proposed the creation of a new UK investment bank in law, which is fully owned by national and devolved governments and would eventually have offices in all regions of the country.

We have proposed a bank that would be operationally independent from government, with an independent Executive Board. However, it would be legally mandated to provide loans and business support directly to SMEs. Loans and loan guarantees would be provided on the basis of a direct assessment of businesses by analysts with knowledge of the local or regional economy.

The bank would have a full government guarantee, but beyond the initial start-up funding should raise all necessary capital from markets. As with KfW in Germany, the guarantee would result in contingent liabilities but these would not be considered part of the public debt. This would allow the bank to provide lending at a competitive market rate.

Such a bank would provide a sustainable source of long-term investment for SMEs and could be a vital tool in improving labour productivity. It could be a lasting solution to a problem that has weighed on the UK economy for years and it should therefore be being considered by government as a key part of any industrial or growth strategy.

Justin Protts is Chief Economist at Civitas. He can be followed on Twitter @Justin_Protts. He is the author of ‘Closing the Finance Gap: How a national investment bank could support enterprise and raise productivity’ which can be read in full here.