Written evidence from Aerospace Technology Institute (ATI) (GPP 16)

1. Do you agree with the Government’s assessment of the reasons for UK’s productivity slowdown?  Has the Government acknowledged all of the main causes of the UK’s poor productivity growth?

It is the ATI’s view that the UK significantly underinvests in Research and Development (R&D) at a macroeconomic level.  This is a major factor in driving productivity growth and retaining an internationally competitive position – not just in the sector that undertakes the R&D, but right across the economy as a whole.

The ATI observes a significant divergence in relative sector performance since the financial crisis.  Productivity in the transport equipment sector has increased by around 80%, compared to 15% for the broader manufacture sector and flat-lining productivity for the services sector (right).  The ATI also notes the level of productivity in high-value sectors, such as aerospace, are more than twice the UK average.  Therefore, continued measures to grow the UK aerospace sector would lead to wider UK productivity benefits.

2. One pillar of the Government’s Plan is to increase "long-term investment".  It outlines eight areas with specific measures to increase productivity.
1. Why has the UK’s long-term investment been so low up to now?
2. How can we ensure that the measures relating to long-term investment in the new Plan will contribute to productivity growth?

UK investment in both fixed capital and in research and development (R&D) is very low by UK historical standards and in comparison to key competitor countries.  The UK capital investment rate has fallen by around a third since the 1970s, and is significantly lower than that for the United States, France and Germany.  As for expenditure on research and development activities, the UK invests just 1.6% of GDP, in contrast to the 3% invested by Germany and the United States (overleaf).

This is all in spite of a historically low cost of capital over the last decade and in contrast to the experience of many other countries.  The UK has seen far higher consumer spending, fuelled by cheap credit, but comparatively low fixed investment or in R&D.

The UK needs to boost R&D and capital investment massively.  Each year the UK fails to spend like our competitors continues to widen the gap between our stock of fixed capacity, technology and capacity for innovation.  The ATI, therefore, strongly agrees that there is a real and urgent need to increase UK levels of long-term investment.

An internationally competitive landscape exists for the aerospace sector.  The increasing international mobility of major aerospace companies means that they have real choices on where to locate their manufacturing and research activities – both towards and away from the UK. 

Therefore, it is essential that there is a continued coordinated long-term plan and commitment between both government and industry to provide a culture of innovation and to give long-term direction and support for fixed capital and strategic research and development investment.  This will act to provide long-term stability for UK-based companies and subsidiaries, as well as increasing investment appetite of international companies to invest and onshore their activities to the UK.

Recent research conducted by the ATI relating to the UK’s productivity puzzle identified significant market failures that have been affecting UK long-term investment:[1] 

• Lack of access to finance and inability of the banking system to appropriately allocate funding
• Not drawing on very large spill-over benefits resulting from investments in R&D to the wider UK economy due to the relatively low expenditure on R&D activities in the UK
• Government failure to de-risk private sector R&D investments, resulting in short-term thinking

These factors have been compounded in the UK in the past by a lack of government prioritisation towards investment in R&D compared to key international competitor countries. 

For the aerospace sector[2] specifically, levels of private and overseas investment in R&D in the UK are nearly comparable to those in both France and Germany.  However, levels of R&D investment committed by the government sector[3] in France and Germany are 3-5 times larger than those in the UK (right).

The resulting impact has been that over time aerospace testing and manufacturing facilities have started to move overseas to other countries providing greater support for these activities. 

Since 2000, the UK share of the EU aerospace market has declined from 40% to 30% (left), and now significantly threatens the UK position as the second largest player in the worldwide aerospace sector, in the absence of a continued serious long-term government investment plan.

Evidence collated by recent ATI research into productivity showed that the typical private return to R&D is just 5%, which is relatively unattractive compared to the weighted average capital cost of nearer 8-9%, and the other possible uses of the funds.  Although some R&D projects may generate large private returns, the risks associated are large, further discouraging long-term investments.

The x axis shows the private rate of return for R&D within specific bands, and the y axis shows the relative frequency

In contrast to relatively low private returns, the spill-over benefits or social returns from investments in R&D are very large – at least twice as large as the private returns.  These spill-over benefits include:

• Knowledge spill-overs to other companies operating in the same sector
• Technology transfer to other sectors in the economy and new applications
• Supporting UK supply chains
• Creating and sustaining high-value jobs and apprenticeships.
• Cultivating a highly skilled workforce
• Positive environmental benefits

However, given that these large social returns are not captured by the companies investing in the R&D, the result is that companies will underinvest compared to the level that would be optimal for the UK economy.  The government, therefore, has a key role in pre-committing to and ensuring greater coordination of investment activities between companies, both within and between sectors, to create a culture of innovation in the UK that is favourable for long-term investment and risk-taking. 

Recent evidence shows that government support in R&D activities has a key leveraging effect on private investment.  For every extra £1 of government investment in R&D, this leads to an increase in private funding of around £1.35.[4]  Therefore, government investment in R&D is able to crowd-in significant extra private investment - more than twice the initial government outlay.  The ATI would encourage the government to increase its scale and ambition for investment in UK R&D activities to grow the UK’s research infrastructure, improve the UK’s international competitiveness and ensure strategic coordination and market alignment, support UK manufacturing supply chains and further leverage private investment, so that the UK better can create and capture long-term value. 

The ATI budget for aerospace R&D investment is already several times oversubscribed by companies wishing to develop innovative technologies here in the UK and onshore significant numbers of high-skill jobs and manufacturing facilities to the UK.  This shows that there is real appetite for long-term UK investments with the right sector-specific government support.  In our view, there is still a very significant opportunity to further increase the volume of aerospace R&D activity carried out in the UK.  The ATI would, therefore, urge the government to continue to prioritise and extend these activities, facilitated by the current delivery mechanisms, if it is to achieve its full potential.

At the ATI, we will continue to ensure that government investment in R&D achieves its maximum economic impact by strategically coordinating the investment portfolio.  Key factors in realising this are market alignment of projects, involvement of the supply chain (including growing the participation of small and medium sized enterprises (SMEs)), and utilising UK academia and research infrastructure.

3. The second pillar of the Government’s Plan is to encourage a "dynamic economy". It outlines seven areas with specific measures to increase productivity.
1. What are the main weaknesses of our economy, in terms of dynamism, which are suppressing our productivity?
2. Do the measures introduced under in the plan address those weaknesses and are they appropriate?

To become a more dynamic economy, the UK must embrace a culture of innovation.  R&D acts as a catalyst for a range of related activities that contribute to technological innovation.  Undertaking R&D on a scale that matters in a macroeconomic sense, implies creating a fertile environment for the cultivation of ideas across the board, creating a real economic impact in the long term.

The UK has had traditional weaknesses around long-term commitment and planning in relation to creating the right environment to encourage investment in both capital equipment and research and development activities.  In some sectors a lack of long-term investment can be due to the relatively short-term time horizons of company shareholders.

However, for the aerospace sector, where order books already stretch out up to 10 years, and with a development time of 20 years for a new aircraft, long-term government commitment for the sector is essential and goes way beyond the next election and current political priorities of the day.

Key contributing actions to encourage R&D to be undertaken and to maximise its impact are:[5]

• Nurturing close relationships between industry, universities, research centres and government.
• Cultivating a highly skilled workforce, whose skills are readily transferable into other sectors
• Rewarding innovation throughout the process, from the publication of research papers, filing of patents, through proof of concept, de-risking, development and finally bringing to market
• Encouraging greater cross-fertilisation of innovation within and across different sectors.

However, for the UK to maintain world leadership in specific sectors, such as aerospace, the UK needs more than this.  It needs: individual companies that can be prime contractors in global markets; a responsive, flexible supply chain; and a rich seam of on-going research, technology and development, from the laboratory to commercialisation, to keep it at the global technological frontier.  Some, but not all, of these measures are covered in the Productivity Plan.  (In question 4 the ATI response highlights key priority actions needed to reach this goal – see bullet-pointed list).

The ATI recognises that these are not small things, but together they create a culture of innovation, which can improve productivity across many sectors, not just the sector which undertakes the initial R&D.  An economy that can do that successfully, at scale, is one that can compete at the highest level globally.  The rewards for success – the social returns – are very large at the macroeconomic level, and governments compete to maximise the share of those rewards that accrue to their citizens.

The ATI also notes the devolution agenda set out in the Productivity Plan, including the Northern Powerhouse and Midlands Engine for Growth Strategies.  UK aerospace already has strong regional clusters (outside London and South East), including in the South West, East Midlands and the North West of England, as well as Wales, Scotland and Northern Ireland (overleaf). 

However, the UK Aerospace sector has a strength in its ability to coordinate and collaborate nationally for UK advantage and it is our view that devolution should be cognisant of the potential negative effects it might create in increasing internal UK competition across regions.

The ATI will continue to invest in supporting these regional aerospace clusters, as well as, assisting the development of greater aerospace research and manufacturing activities in other parts of the country.

4. Overall, does the Plan adequately address the main causes of low productivity in the UK and will it have the desired results?

Overall, the Government’s Productivity Plan contains many of the elements necessary for addressing the causes of low UK productivity.  The ATI welcomes the focus of both pillars: long-term investment in both fixed capital and research and development and a more dynamic economy. 

The UK needs to boost R&D and capital investment massively.  Each year the UK fails to spend like our competitors continues to widen the gap between our stock of fixed capital, technology and capacity for innovation.  The ATI, therefore, strongly agrees that there is a real and urgent need to increase UK levels of long-term investment in both fixed capital and research and development.

In particular, the ATI would urge the Government to invest in R&D activities strategically and at scale to maximise the UK benefit.  Government investment in R&D and its commitment to future investment has a key role at crowding-in greater private sector investment, ensuring industry coordination and generating economic spill-over benefits.  The ATI would strongly encourage the Government to maintain and extend prioritisation towards these R&D activities, through organisations such as the ATI and UK Catapult Network.

Efforts to grow the UK’s research infrastructure will improve the UK’s international competitiveness and ensure strategic coordination and market alignment, support UK manufacturing supply chains and further leverage private investment, so that the UK can better create and capture long-term value. 

Alongside these measures, to become a more dynamic economy, with an improved productivity performance, the UK must embrace a culture of innovation.  Key priority actions to reach this goal include:

• Investing in R&D activities strategically, and with scale and ambition
• Improving UK education in science, technology, engineering and mathematics subjects
• Training skilled apprentices, retaining and attracting talent from abroad
• Developing UK regional clusters of innovation, such as the UK Catapults network
• Reducing burdensome business regulations, and promoting international trade
• Targeted investment in transport and digital infrastructure
• Improving access to finance, especially for SMEs

The evidence that the ATI has seen so far is that, with the right government support, there is real appetite for long-term UK investments by companies wishing to develop innovative technologies here in the UK and onshore significant numbers of high-skill jobs and manufacturing facilities to the UK. 

Background to ATI:

The Aerospace Technology Institute (ATI) is an independent company established as a collaboration between Government and Industry to create and implement a challenging aerospace technology strategy for the UK:

• Vision: sustain and grow an internationally competitive aerospace sector through investment in technologies consistent with aircraft updates, new aircraft and the sector’s strengths.
• Mission: maintain and grow the UK’s competitive position through £2 billion of secured R&T investment – safeguarding and creating opportunities for UK jobs and economic value.
• Goals: to provide technology leadership, maximise funding impact, convene strategic partnerships and elevate the UK’s international profile.

Contact Details:

Malcolm Scott, Corporate Development Officer