LONDON (Reuters) - Low productivity may have been a bigger factor behind Britain's slow economic recovery than previously thought, with potentially stark implications for monetary policy, Bank of England research suggested on Thursday.
Previous research had suggested one-off demand shocks were the main reason for Britain's weak economic recovery from the financial crisis, but the research - co-authored by BoE policymaker Martin Weale - suggested this conclusion was due to flawed statistical techniques.
If the findings are right, they may raise the barrier to the BoE restarting bond purchases - which offer a one-off stimulus to demand but do not tackle underlying issues - and put a greater onus on government and BoE policymakers to tackle Britain's poor productivity.
Weak productivity is a well-known problem for the British economy, and official data released earlier on Thursday showed that on one measure it fell to its lowest level since 2005.
However, existing research referred to in the paper by Weale and two other BoE economists suggested that "temporary demand shocks" - such as headwinds from the euro zone or government austerity - were the main reasons for slow British growth.
Britain's economy shrank by around 7 percent in the 2008-09 recession, and its recovery since then has been amongst the slowest of the six economies looked at in the study, which include the United States, Canada, Germany, France and Italy.
Earlier work had failed to properly account for the links between these economies, and doing so correctly led to new conclusions about Britain, the study said.
"The previous conclusions are now clearly overturned. Both permanent labour productivity and temporary demand shocks now contribute roughly equal amounts to recent (2010 and 2011) weak output growth in the UK," it said.
"Given this stark difference in results and policy implications, future applied work should therefore not ignore these issues and there might be some merit in a re-examination of past ... research," the study added.
If weak productivity, rather than low demand and a lack of confidence, is behind much of sluggish British economic performance, this would help explain why inflation has often been above target and higher than the BoE forecast.
An unexpected jump in inflation in October was one reason why the BoE decided in November to halt bond purchases once they had reached the 375 billion pound total agreed in July, and most economists do not expect it to restart this stimulus programme .
However, the cause of Britain's weak productivity - and whether it is permanent, or a temporary consequence of the financial crisis - is still largely a mystery.
Part of the reason may be the effect of the financial crisis on Britain's once highly profitable financial services sector, as well as a longer-term decline in highly productive North Sea oil and gas extraction.
Some BoE officials also blame a lack of bank credit stopping firms from moving into more profitable niches, and this is one reason why the BoE launched its so-called Funding for Lending Scheme in August, which offers banks cheap finance.
But other officials, such as former BoE policymaker Adam Posen, have played down the idea that the financial crisis permanently damaged the productive capacity of British workers, and that this would be enough of a reason to hold back stimulus.
And David Miles, the only MPC member to back more asset purchases, argues that productivity itself is artificially depressed by low demand, and will pick up when growth returns.
Reporting by David Milliken. Editing by Jeremy Gaunt.