In the mid-nineteenth century, the United Kingdom boasted the highest economic output per capita of any nation in the world, and its material standards of living were without equal. Ever since then, it has gradually lost ground. It now ranks bottom of the league of G7 countries, trailing the leader, the United States, by 30 percent (Exhibit 1).

To find out why, the McKinsey Global Institute conducteda detailed study of the United Kingdom’s recent economic performance. As well as looking at the economy as a whole, we compared the productivity of UK companies with that of the world’s top performers in six key product markets: automotive, food processing, food retailing, hotels, software, and telecommunications. In each case, we sought to uncover the reasons behind differences in performance.

Our principal findings were that:

• Despite the labor and capital market reforms of the past 20 years, output per capita in the market sector remains almost 40 percent behind that of the United States, and 20 percent behind that of West Germany. The root cause of this gap is low labor productivity (Exhibit 2). The results of our productivity case studies confirm this overall trend (Exhibit 3).
  
  
• Contrary to conventional wisdom, the...