Increasing the Annual Investment Allowance (AIA) from its current rate of £1 million to £5 million would more than double projected business investment growth, according to analysis conducted by the Centre for Economics and Business Research (Cebr).
In its Autumn Budget, the government announced it would temporarily raise the AIA – a policy designed to encourage business investment in plant and machinery – from £200,000 to £1 million until the start of 2021. Although this was widely welcomed, the UK economy is set to miss out on important productivity gains if the policy does not go further to incentivise businesses to invest.
Under Chancellor Phillip Hammond’s existing policy, business investment is expected to be boosted by 1.7% over the next five years. If the AIA was raised to £5 million indefinitely, our research found that business investment would increase by up to 4.1% – setting the UK on a significantly higher growth trajectory.
Hammond’s policy will also see labour productivity rise by 0.3% by the end of 2023. But, if the AIA was raised to £5 million, this figure would increase almost five-fold to 1.4% during the same period. This would generate an additional £27 billion to the UK economy over the next five years if British employees worked the same 52.9 billion hours performed in 2016.
UK productivity growth has stagnated considerably since the 2008 financial crisis
UK productivity growth has stagnated considerably since the 2008 financial crisis, falling behind that of its G7 counterparts.
GDP per hour worked in the UK increased by just 1.1% between 2008 and 2016 – compared with 8.5% in the United States, 7.4% in Japan and 6.5% in Germany. This sits well behind Britain’s pre-financial crisis trend.
While the UK’s level of output per hour (USD 48.1) was above that of Italy (USD 47.7) and Japan (USD 41.5) in 2016, workers in the United States (USD 63.5), Germany (USD 60.0) and France (USD 59.1) are all significantly more productive than the UK for every hour they work. If this sluggish rate of growth persists, the UK will continue to limp behind its G7 peers.
Investment is crucial to guaranteeing the UK’s future prosperity and is particularly significant given the country’s ongoing productivity woes and the need to deal with Industry 4.0. With four-fifths of investment coming from businesses, it’s essential that the government fosters an environment which is conducive to this. We would like to see a cohesive and sensible Industrial Policy, which would include an increased Annual Investment Allowance to support the opportunities and challenges that lie ahead.
By raising the AIA in the 2018 Budget, the Chancellor took a meaningful step to promote business investment and productivity. However, the rise to £1 million for the next two years doesn’t go far enough. We are calling on the government to raise the AIA to £5 million indefinitely in a bid to boost the economy at a time of heightened uncertainty.
Although an increase in the AIA will lead to a direct reduction in the total level of corporation tax receipts, there will be offsetting increases in other tax receipts from elsewhere in the economy. Higher productivity would feed through into the earnings of those in employment, stimulating higher receipts from income tax, VAT (as a result of higher consumption), and stamp duty via indirect effects in the housing market.
Download our report to find out more about how we can solve the UK’s productivity puzzle.
Tom Lawton, Partner and Head, BDO Manufacturing