Labour productivity fell sharply at the start of the 2008 financial crisis. Output produced per worker remains around 14 percentage points below the pre-crisis trend. The scale of the productivity fall and the continued stagnation has been the defining feature of the UK's Great Recession and is commonly termed the 'productivity puzzle'. Headway has been made in solving the puzzle, much of it by work at the Bank of England and the Institute for Fiscal Studies. We know that the solution does not lie in the changing composition of the work force or in an industrial shift in the economy. At the start of the recession productivity was depressed as employers with sufficient resources retained skilled and experienced workers even though they were less productive at that time (this is known as 'labour hoarding'). Since then, multiple factors have likely contributed to the continued weakness, including: a fall in real wages (that may have facilitated labour hoarding and led firms to substitute labour for capital, but that may also be a result of lower productivity); a fall in investment (such that workers have less, and less good capital to work with); higher firm survival than in previous recessions. However, it has been difficult to account for the entire puzzle by appealing to these factors alone. In this project we will explore the role of capital allocation. Previous evidence shows that the overall productivity of the economy - Total Factor Productivity (TFP) - is improved substantially when resources flow to the uses that have the highest return. We have found preliminary evidence that the link between investment and rates of return in the UK has broken down since 2008. The recession was characterised by relative demand shocks and an increasing dispersion in rates of return to capital across firms. Despite this, there has been very little adjustment in the allocation of capital; capital is not flowing to the projects with the highest returns. This is perhaps not surprising given that the key channels through which capital flows across the economy (new investment and the entry and exit of firms) have been notably weak since 2008. The UK experience stands in contrast to previous UK recessions, and to the current experience of the US. An increase in uncertainty and financial market impairment are important candidates for why capital has not been adjusted in response to shocks. In this project we view such factors as distorting firms' choices over how much capital to invest in. Our objective is to quantify the scale of such distortions and to estimate how important they are in impeding the allocation of capital and thereby lowering aggregate TFP (and therefore labour productivity). This project will be novel in applying previously developed methods from the academic literature to the context of an advanced economy recession; most of existing literature on resource misallocation focuses on developing countries and seeks to explain their relatively poor productivity performance. In addition, we plan to extend the existing modelling framework to explicitly account for a process of dynamic capital adjustment. That is, to account for the presence of costs that inhibit the adjustment of capital even in normal times. Productivity growth is the source of rising living standards and economic growth. Understanding the causes of weak productivity is therefore central to identifying the policy challenges and designing the solutions. For example, the extent to which low productivity is a temporary or permanent problem is central to judging the UK's supply capacity, and whether expansionary policies are called for. This is of particular importance to monetary policy, which must consider the inflationary consequences of economic expansion. This project will bring together expertise from the Bank of England and the IFS with a view to advancing the solution to the productivity puzzle and directly informing policy makers.