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Beyond the balance sheet

The importance of small firms to the economy & how to help them

Chris Thompson 28/7/2017 7 minute read

Chris Thompson on why the Chancellor and Governor of the Bank of England need to help SMEs to fuel the economy.

The main political parties haven't said much about business during or after the election and certainly haven't come up with many, if any, positive policies to really help SMEs. Potentially, they missed a huge opportunity. The importance of small firms in helping the economy to take off can't be overstated. It's the growth of these small and medium sized organisations, who can power the UK out of the doldrums.  

Instead they could be formulating pro-growth business initiatives so as to create a far bigger pie which can then be divided up more equitably. Here's 5 key areas where the government might make a real difference by helping SMEs.

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1. Reform the tax system

As we said at the time of the Spring Budget, the UK tax book is both enormous and extremely complicated to navigate. It's 21,000 pages and 10 million words making it one of the largest publications in the world. The reality is so much regulation is bad for business, making it desperately difficult to navigate the rules when running an organisation.

 

 

Some good starting points of change would be:

  • An overall ambition to bring the tax burden down to encourage investment and spending
  • Carrying out the stated ambition of abolishing national insurance with a modest raise in income tax to compensate for it
  • Introducing standard, flat rates for things like capital gains tax, inheritance tax and VAT  
  • Considering the simplification of most tax reliefs

2. Actually tackle the productivity problem

A fundamental issue that both employers and employees face is the UK's persistent productivity problem. Statistics reveal this nosedived during the financial crisis and is only now returning to its pre 2008 level.

According to FullFact.org, an hour's work in Germany in 2013 produced 28% more output than in the UK while in the United States, the same hour's work produced 31% more output. In fact output per hour is 16% below the G7 average.  

Real wages in the UK, 2007-2015

 

We need to understand:

  • What are the areas of technological development that will most help the labour market to work more efficiently?
  • Which sectors and industries will crumble, which ones will emerge, develop and thrive?
  • How well equipped are the next generation of entrepreneurs and workers to navigate and benefit from these changes?

More might need to be done in terms of the government working with SMEs to encourage greater uptake of apprenticeships. At present, to qualify, businesses have to go through considerable red tape and paperwork and they also have to use an approved training provider. 

Maybe more needs to be done to ensure businesses recognise the importance of their employees. That means initiatives to help them invest in upskilling, rewarding and retaining their people. A career needs to be far more than just a page of nice words on the website. Young workers need to see the benefits of staying at an organisation with a clear path to greater competency, responsibility, development and status.  

3. Greater clarity and speed on Brexit

We've written plenty about Brexit last year in terms of the pros and cons. A clear downside of the situation is the amount of uncertainty that is generated from the protracted negotiations that will result in an exit from the EU. Hard Brexit? Soft Brexit? What do they really mean? Who knows?

Uncertainty is bad for business particularly when it comes to spending and investment decisions being put on hold. If organisations aren't investing due to the clouded environment in which they're operating in then we can't expect to see much growth. The longer negotiations go on, the worse this situation gets.

So, how about fast tracking initial negotiations to some sort of transitional arrangement that could include membership of the European Economic Area (EEA). This wouldn't deliver the core pledges of Brexit to do with sovereignty and immigration but by being temporary it would allow for the gradual phasing in of these policies which require a lot of negotiation and deal making.

Businesses would then better know where they stand and how to prepare for what's ahead. It would also mean the finer details of how the end exit will look, can be negotiated at a pace that will allow for the necessary clarity of thought and informed decision making that such sensitive, and highly complex matters require.   

4. Stay the course on austerity

The country carries an enormous debt pile today, £1.8trn to be precise. Every year we add to it by running a budget deficit (spending more than we take in tax revenue) that currently stands at £52bn. To give this some context the government spend £46bn of tax payers money on the interest on the UK's debt, that's more than the £26bn spent on transport.

Could this position become unsustainable. How long will investors be willing to purchase and hold UK gilts if we show little will to work towards achieving a budget surplus and thus begin paying down our borrowings? It's a precarious situation because if politicians give up on austerity entirely then that would suggest a default in some form could be on the cards.

A subtle default mechanism would involve rising prices to the extent that they erode the real value of our debt. Consider the latest inflation figures, the consumer price index (CPI) stands at a near four year high of 2.6%. Worse still, the old government target of measuring inflation (RPIX) is 3.5%.

5. Normalise monetary policy

It appears all the policies employed by Central Banks since 2009 to drive up inflation might be coming to fruition. Think quantitative easing and near zero interest rates. However, it has come at a significant cost. The last 10 years have seen sustained periods where real wages have declined and sadly it's happening again. Spending and growth are thus likely to suffer moving forward as consumers wages won't go as far as they used to.  

Interest rates being so low for so long has caused all sorts of "behavioural distortions" and it could be difficult to change that unless action is taken. That was the very theme of a speech by the outgoing Kristin Forbes as she stood down from the Bank of England's Monetary Policy Committee. 

Low rates also distort consumer behaviour by encouraging borrowing at the expense of saving. Unsecured consumer credit (which includes credit cards, car loans and payday loans) is expected this year to hit levels akin to those during the 2008 financial crash. Debt charity StepChange now estimate that 2.9m people in the UK are experiencing severe financial debt.

Rates may have been left far too low for far too long. Some businesses and consumers have become hooked on cheap finance and like an addict, getting them off could prove very difficult. Rates may well need to keep inflation in check as well as kickstart the necessary process of encouraging entrepreneurialism and competition as argued by John Stepek in MoneyWeek.

This could in turn lead to more innovation, productivity gains and consequent wage rises. It might just help wean consumers off unsecured borrowing and back to the savings model that is the sign of a healthy and vibrant economy. The longer this is left however, the faster, harder and more painful the potential consequences of rate rises will be.   

Reactive policy making will no longer suffice

To summarise, a consistent theme throughout this post has been the need for policies that are forward thinking and pro-active. For too long Westminster has appeared behind the curve being very reactive to news and events when creating laws. The economy and SMEs need so much more.   

What's your opinion? Do share with us your constructive thoughts and ideas in the comments section below.     

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The content of this post is up to date and relevant as at 25/07/2017.

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