The National Living Wage will bring Britain’s need for stronger productivity growth into sharp focus

After months of debate, analysis and more than a little terminological confusion, the introduction of the National Living Wage (NLW) is now just five weeks away. While this substantial lifting of the wage floor for the over-24s will come as a welcome boost for the 4.5 million low paid workers set to benefit initially (rising to 6 million by 2020), how employers will react remains the big unknown.

A major report published today by the Resolution Foundation and CIPD, including a survey and in-depth interviews with employers, finds that raising productivity is firmly on the agenda of affected firms. While this is encouraging, it is of course easier said than done. Government can help. Clearly there’s no silver bullet, but facilitating a step up in productivity should be a central goal of government as it holds the key to the success of the NLW.

To understand why, it’s worth reflecting on how the NLW compares with previous minimum wage rises. From 1 April, the legal wage floor for those aged 25 and over will rise to £7.20. Its trajectory over the course of the parliament depends on many factors – notably median wage growth – but the OBR’s latest estimate is that by 2020 the NLW will be £9.15. In real terms, that represents a 14.4 per cent increase – only slightly less than the 15.8 per cent increase during the early years of the National Minimum Wage (NMW). This is despite the NMW being initially set at a deliberately low level, rather than the relatively high starting point for the NLW.

With that backdrop and to underline the scale of our productivity challenge, the chart examines the relationship between the wage floor and productivity across the OECD, updating analysis done by my colleague Matt Whittaker. Each red dot represents an OECD country, with those with higher minimum wages closer to the top, and those with higher productivity closer to the right-hand side of the chart. The blue dots show where the NMW has placed the UK between 2000 and 2014, with it being consistently a little higher than the ‘line of best fit’.

The NLW pushes the UK further above this line to the extent that in order to maintain the historic relationship by 2020, productivity would need to increase by around 6 per cent annually. That’s more than three times the level of growth forecast by the Bank of England in its latest inflation report.

Of course, the distribution of dots on the chart makes clear that it’s perfectly possible to balance a higher minimum wage to productivity ratio than that currently recorded in the UK. Nevertheless, without a sizeable productivity increase, the new NLW will push the UK towards being much more of an outlier than it is at the moment. Productivity gains don’t have to occur overnight, but the chart should at least focus minds on the importance of targeting improvement.

And, given where the NLW will bite hardest, it’s important to note that some of those gains will need to come in key low-paying sectors such as retail and hospitality. The good news is that many employers in these sectors are up for the challenge.

The most common response from those employers surveyed by CIPD and the Resolution Foundation was to raise productivity or boost efficiency. That’s welcome but raises as many questions as answers. Crucially, how do firms plan to achieve this? Interviews with employers from some of the most-affected sectors highlight a variety of approaches: making better use of existing staff skills; reexamining staff time and reinvesting on other tasks; restructuring bonuses in order to better motivate staff; and implementing progression pathways to give employees a clearer route to higher pay, again with the aim of boosting performance.

But the interviews also revealed that many organisations were struggling to come up with ideas. For SMEs in particular, the default approach in the short term was to absorb the higher wage costs through lower profits while formulating a more comprehensive approach. Others were more pessimistic about the possibility of any gains, with the years since the crisis meaning they believed they were already operating at full capacity, with little scope to get more out of their staff or processes. That’s where the government  can come in.

The picture on productivity from today’s report is of good intentions and some practical ideas but with question marks over how widespread or successful employers’ attempts will be. The Chancellor’s bold move on low pay has injected some much-needed ambition into tackling Britain’s chronic low pay problem. But the harder task of implementing the NLW and helping to stimulate productivity growth must begin right away.

Government – both at a UK-level and below – has an important role to play in spreading best practice and helping organisations seeking to adapt their business models in response to the NLW to do so. While government productivity pushes are often associated with glamorous sectors, such as tech and creative industries, the findings of today’s report suggest that support is needed in low-paying industries too.