The challenge

1.2 The Government is modernising the UK. It has done much to modernise the social fabric. This White Paper and the Chancellor’s Pre—Budget Report together set out the next steps in the Government’s strategy for modernising the economy. The analysis underpinning this strategy is set out in a separate analysis and background report . A summary of the main productivity proposals in the Pre Budget Report is set out at the end of this White Paper.

1.3 Since the turn of the century the UK has been in relative economic decline. Our growth rate has been below the US and the other leading European economies. Our productivity is 20—40 per cent behind these countries and the gap with France and Germany is not closing. The challenge is to close the performance gap and enhance prosperity.

1.4 This must be achieved in the face of a rapidly changing business environment.

• Europe is becoming a unified market. It is the UK’s home market and has the potential of the US. This offers major opportunities to UK business ready to think on a European scale.
• The world economy is also becoming more open. There are larger markets offering greater opportunities. At the same time competitors are stronger and more numerous.
• Capital is increasingly mobile.
• An increasing number of low cost countries have educated and skilled workforces, well resourced and capable of delivering sophisticated goods and services.
• Information and communications technologies (ICTs) and shortening product cycles make it increasingly easy for new entrants to compete head to head with established players.
• Science is generating entirely new industries, such as biotechnology, faster than ever before.
• Increasing pressure on our environment and natural resources presents new opportunities and challenges for business innovation.

The way ahead

1.5 In the increasingly global economy of today, we cannot compete in the old way. Capital is mobile, technology can migrate quickly and goods can be made in low cost countries and shipped to developed markets. British business must compete by exploiting capabilities which its competitors cannot easily match or imitate. These distinctive capabilities are not raw materials, land or access to cheap labour. They must be knowledge, skills and creativity, which help create high productivity business processes and high value goods and services. That is why we will only compete successfully in future if we create an economy that is genuinely "knowledge driven".

1.7 The knowledge driven economy is not simply about strengthening the science base and raising the education and skill levels of the workforce. These objectives are vitally important and central to government policy. But success in the knowledge driven economy requires a shift in the business mind set: greater receptiveness to know-how and the ability to see its commercial potential; eagerness to keep on learning at all levels in a business; and flair in spotting new customer needs and fresh business opportunities. In short, we will only succeed in building the knowledge driven economy on the back of more dynamic innovation and more vigorous entrepreneurialism.

1.8 These qualities will also be necessary if companies are to respond to society’s rising expectations for a better environment and seize the opportunities this creates for new and innovative types of goods and services that are more profitable, less damaging and ensure a better quality of life. This message will be at the heart of the new strategy for sustainable development which the Government will publish early next year, and which will set out how economic, social and environmental objectives can be integrated.

How the UK is placed

1.9 Britain can face this future with hope. We have a world class reputation in science and engineering, many world class businesses in sectors such as pharmaceuticals, aerospace, media and entertainment, a strong position in some of the industries of the future and a more entrepreneurial culture than elsewhere in Europe.

1.10 Yet Britain suffers long-standing shortcomings, which still hold us back. Too many British companies fail to match the performance of their overseas counterparts, not just in terms of productivity but in innovation and quality. We have invested too little in modern plant and machinery, as well as research and development and other intangible assets. Skill levels, including marketing and design skills, are too low across too much of the workforce. Too many British companies have low ambitions. Too few match world best practice.

1.11 To compete effectively in the knowledge driven economy we need to overcome these shortcomings. Achieving that requires a new approach to public policy.