The labour productivity dilemma and jobs – its not ok… its all ok… its very important

Although it should never be far from the top of the economic agenda, national productivity and the debate about how to improve productivity at the sector and firm level do not always receive the attention they deserve. Recent weeks have seen the erudite technicians of The Treasury confirm that Australia’s labour productivity (LP) growth is pretty much consistent with much of the last two decades, and endorsing the expectation that “Labour productivity growth is, and is expected to continue to be, the key determinant of growth in Australian living standards.”

One of the major dilemmas in assessing productivity is ensuring there is a consistent view of what constitutes productivity. Writing in The Age in early September, Ross Gittins described it like this:

“Productivity compares the quantity of the economy's output of goods and services with the quantity of inputs of resources used to produce the output.”

That is a good beginning because it allows us to understand, as Gittins put it, that:

“When output grows faster than inputs – as it does most years – we're left better off. This improvement in our productivity is the overwhelming reason for the increase in our material standard of living over the years and centuries.”

So when The Treasury* reports that LP has been and will continue to be the driving force behind the economy, we need to drill in and understand that this is not some game of economic sophistry – its about the nation’s income and at the personal level, living standards.

There are two ways in which labour is critical to national economic growth. The first is this question of labour productivity. The second is the labour utilization rate, which we will address a little later in this analysis.

When productivity is measured as a ratio of outputs, for a given amount of labour inputs (normally, hours worked), what it really refers to is the amount of capital being used per unit of labour to deliver the output. When labour productivity rises, it does so because of ‘capital deepening’.

To put this in more practical terms, LP is not a reference to how hard a worker deploys a shovel, but rather, how good (new, shiny etc) the shovel is.

The other and more challenging measure is described as ‘multi-factor productivity’ (MFP). This refers to how the inputs that can make labour and capital work more efficiently are organized. MFP can be quite intangible, and thus more difficult to measure. Examples include training and skills, management capability, supply-chain improvements and so on.

Debate rages between those who think either Capital Deepening or MFP is more significant to the future of the Australian economy. The authors of The Treasury paper – and Gittins – consider Capital Deepening to be at the forefront, and their data seems to support this, not least because it is much more reliably measured than MFP.

The Treasury paper analyses the basis of Australia’s LP growth, attributing it between MFP and Capital Deepening, as the following chart shows.

fig 17

With the exception of the five years from 1993-94 to 1998-99, Australia’s LP has been dominated by Capital Deepening, not MFP. The Treasury paper attributes this to expenditure on ICT, but also wider and deeper use of ICT, especially in the services sectors.

Now importantly, in the ‘down years through the 2000s, The Treasury paper says LP softened (and was soft through to the end of the period displayed in the chart) because:

“The Agriculture sector was hit by drought and the Mining and Utilities sectors experienced a fall in productivity as it pursued an ‘unrequited acceleration in input use’ without a corresponding change in output.”

That is, the mining investment and related construction boom added very significantly to the capital deployed in the Australian economy, with only very limited transfer to higher LP, until the new facilities came on line and started to produce in significant volumes.

Well, that makes good sense historically, and the authors have more good sense – they suggest the future of LP growth relies on both Capital Deepening and MFP improvements.

They go on to say that sector LP can be measured, as the chart below shows.

fig 18

Good news for the forestry sector? Probably not, because the LP growth has come, as the chart below shows, with its share of total economic output declining.


Put the two together and what you have is higher output per unit of labour, but less overall output (at least as a proportion of the total economy), meaning there are less units of labour being used (hours worked), rather than actual Capital Deepening in the sector. We can see this output in the chart below.

fig 20

The Treasury paper continues in further discussion on sector level productivity. It is useful reading, but the conclusion is our jumping off point. The paper argues that:

“Despite concerns about Australia’s labour productivity and MFP growth in light of the lower terms of trade and an ageing population, recent labour productivity growth (driven by capital deepening) is in line with its longer term averages. “

and finally

“…both capital deepening and MFP improvements will be important to support future growth in labour productivity in Australia.”

Labour utilization matters too

We jump off here because the inescapable reality is that the other factor of relevance in labour productivity is the labour utilization rate.

Once, labour utilization referred to the ratio of adult men in full time employment. But those days are gone. This is not just a debate about how many people have a job – the employment rate – but also about the nature of that work, and how many hours each employed person works. It is also about just how effectively their capabilities are deployed.

Most debates about labour utilization are personalized around the unemployment data. It is as good a place as any to start this examination. As the chart below shows, Australia’s unemployment rate was stable at 5.6% on a seasonally adjusted basis, in August 2017. 

fig 21

To go straight to the dashboard and take a closer look at the data, click here.

It can be observed that the unemployment rate has trended down since late 2014 and is towards its medium term low.  Still, as the blue bars show, the number of people who are unemployed is higher (by around 10,000 people) than it was in August 2016 when the unemployment rate was essentially the same.

The economy is creating jobs more slowly than the growth in the number of people seeking work. But not by much, and we cannot make too much of that just yet.

Next, we can look at employment and seek to discern some trends. We can see in the chart below that the proportion of people in work or seeking work (the Participation Rate) has grown to 65.3% in August 2017. That helps explain the higher number of unemployed people.

fig 22

To go straight to the dashboard and take a closer look at the data, click here.

But we also need to look behind the thin green line, especially at the growth of part time employment. In August 2017, part time jobs were reported at a record - 3,876,700 jobs, against 8,392,300 full time jobs. Both are growing, but the concern as part time employment grows is underemployment. That is, there are people who want more work in the part time cohort – they just cannot get it.

At an economic level – when we think of Labour Productivity – there is nothing more inefficient than not using labour resources at all (unemployment). Second, is not using it for its full availability (underemployment). A third factor is inappropriate labour utilization, which results in capital and labour being mismatched – that is why training and retraining opportunities are important to the economy, not just the individuals, during periods of rapid change – like the shift to the technology driven services economy.

Whether caused by insufficient application of capital which is implied by the still inadequate level of Business Investment in the GDP data in the opening item of this edition of Statistics Count) or a series of other inefficiencies (that go to the question of MFP), the conclusion is the same – under-utilised labour may be a drag on economic growth.

For that portion of economic growth which is driven by consumption expenditure, there is another problem of course – people with no work or not enough work cannot buy things that sustain much of the nation’s economic activity.

Capital deepening can take us only so far in improving LP and living standards. Even the efficiency with which we deploy our resources – MFP – has its limits. The third factor is labour utilization. It may need to be more closely linked to this debate on productivity, if Australia is to enjoy the rates of economic growth and improvements in living standards for which the nation is known.

Full Treasury report can be found at:

*Australian productivity trends and the effect of structural change -