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By William Schomberg and David Milliken

LONDON (Reuters) -When accountants at mid-tier firm Moore Kingston Smith began using artificial intelligence to speed up their work, profit margins jumped.

Colleagues in another team running checks against corporate fraud created a report for customers in two hours, something that previously took two weeks.

The rollout of AI is raising hopes that Britain’s economy can escape the productivity problem that has dogged it for two decades, even as slow growth pushes finance minister Rachel Reeves towards tax hikes in Wednesday’s budget.

Economists say the dominance of ​services businesses in Britain’s private sector compared to other countries could mean higher rewards if it rapidly adopts AI in powerhouse sectors such as accountancy and finance.

Ratings agency Moody’s said on Friday the UK could gain more than other countries from the advances in the technology.

Becky Shields, MKS’ head of ‌digital transformation, said AI was freeing staff from repetitive work and giving them more time to work with clients.

“The large language models that underpin all of this technology are evolving all the time. They’re getting better and better with every iteration,” she said.

UK PLC IS AI-READY

Services make up 80% of Britain’s economy, the same as the United States – and account for a bigger ‌share once services generally provided by the state are stripped out.

MKS, with about 1,500 UK staff, is applying its platform based on Google’s Gemini 2.5 model to a growing range of work. Shields said it was still a learning process, but its positive impact was clear.

A team that used AI four times more intensively than another group reported a profit margin 8 percentage points higher, she said.

Rather than ask for proof of orders, invoices, bank statements and other documents for a sample of transactions, the team using AI let clients upload entire datasets which MKS was able to analyse automatically.

Initial extra work is now paying off as the process can be applied more widely. The reduced paperwork helps clients who say they chose the firm for its AI adoption, Shields said.

“You can do a lot with a little with how the technology currently sits,” she added, describing the cost of AI as “pennies in the pound” compared with other technology.

For Britain’s economy – and struggling Prime Minister Keir Starmer – improving productivity ⁠is a major challenge.

An expected downgrade by budget forecasters of the economy’s underlying growth potential, reflecting past disappointments,‌ is set to blow a hole in the public finances, meaning Reeves is likely to increase taxes on Wednesday to reassure nervous bond investors that she can cut borrowing.

PRODUCTIVITY DRAGS

As elsewhere, improvements in Britain’s productivity slowed after the 2007-08 global financial crisis, leading to almost 20 years of weak growth and frustration among voters.

Feeble productivity gains account for half of Britain’s slowdown in pay growth since 2008, according to the National Institute of Economic and Social Research, a think tank.

Starmer’s government ‍is trying to streamline the planning system, modernise infrastructure and improve skills to raise productivity and get the economy firing again. It also hopes that AI can inject more efficiency into public services.

“Productivity isn’t everything, but in the long run it is almost everything,” Nobel Prize-winning economist Paul Krugman said in 1990. Bart van Ark, head of the University of Manchester’s Productivity Institute, said that for Britain’s government “almost everything in the short run is productivity”.

Britain has the highest inflation rate among the Group of Seven rich nations and too many people dropping out of the jobs market. Its business investment rate was the G7’s second-lowest in 2024, although comparable to that for the United States, which ​manages far better productivity.

But AI could be a card up Britain’s sleeve.

One of Reeves’ deputy ministers, Torsten Bell, who is helping to write her budget, argued in his 2024 book that Britain “can and should ride the services wave”.

Bolstered by its expertise in financial and business services, law, ‌education and architecture, Britain had a services trade surplus of $248 billion in 2024, second only to the United States, World Trade Organization figures show.

British services exports accounted for just over 7% of the world’s total, again the second-highest after the U.S.

Less clear is the AI upside for British factories. They are struggling in the face of high energy, labour and raw materials costs, low public infrastructure investment and shifts in trading rules.

Flooring materials maker Amtico, in England’s Midlands region, uses AI to plan production. But its next big investment decision is about expanding the use of robotics to offset some of Britain’s high costs for manufacturers.

“I am looking to take my most labour-intensive processes and invest my way out of it,” Jonathan Duck, Amtico’s chief executive, said.

Many firms are still smarting from a labour tax hike in Reeves’ first budget last year. Employers say Reeves would risk her growth agenda if she increases tax on them again.

GROWTH UP, BUT JOBS DOWN?

Analysts say it is too early to be sure about AI’s longer-term impact on economic growth as estimates range widely given the uncertainties about its real-world applications, but most agree it will not be immediate.

Bank of England Governor Andrew Bailey, who sees ⁠AI as a potential game-changer, said last month it took around 40 years between Thomas Edison first wiring up a light bulb and the impact of electricity showing up in the productivity ​statistics.

“We are still at the experimentation stage with AI, so investment and persistence is crucial,” Bailey said.

The University of Manchester’s Van Ark sees AI adding 0.1 to 0.2 percentage ​points to annual growth in the coming years. That would help an economy growing by about 1.5% a year but will not spare the current government from tough budget choices.

Paul Dales, chief UK economist at Capital Economics, said AI was likely to speed up growth in the mid-2030s, with Britain seeing more adoption than Europe’s other big economies due to its more hands-off approach to regulation and labour laws.

Andrew Wishart, an economist at bank Berenberg, said improved productivity in higher-value corporate sectors offered signs that a ‍broader change was already underway.

“If we don’t have a sharp rise in taxes, ⁠I think we should see it in business earnings,” he said.

Risks from the rise of AI include the possibility that its gains flow mostly to bigger firms with more funds to invest, potentially leading to a less competitive economy and aggravating Britain’s geographic imbalances.

Some firms in highly regulated sectors, such as accountancy, worry that rule-makers will not keep pace with the technology.

“The challenge for businesses is not getting a sense right now of what is and isn’t allowed,” Esther Mallowah, head of tech policy at the Institute of Chartered Accountants in England and Wales, said.

Another big risk from ⁠a more automated future, its impact on the labour market, is becoming a little clearer.

A survey by the Chartered Institute of Personnel and Development this month showed 17% of private sector employers expected to reduce headcount over the next 12 months as a result of AI. Only 6% planned an increase.

At MKS, the number of graduates hired this year was cut. But Shields said the ‌reduction was intended as a “short shock” to speed up the way staff adapt to AI.

Hiring would probably return to normal after a year to ensure the human touch is not lost.

“Our clients trust us to do more with their business whether it’s wanting more assistance or ‌new services,” Shields said. “There is no expectation that will be a long-term trend.”

(Writing by William Schomberg; Editing by Catherine Evans)