Crown Conference Centre
1 st August 2011
Saul Eslake
Program Director, Productivity Growth - Grattan Institute

What is ‘productivity’?
 ‘Productivity’ is a measure of how effectively or efficiently a workplace, a business or government agency, a region or a nation as a whole uses the resources at its disposal to produce goods and services which are in turn valued, in some way, by those who consume or use them
 For individual enterprises, ‘productivity’ may refer to a measure of production or output per unit of some specific input
– eg litres of milk per cow or tonnes of grain per hectare
– ounces of gold per tonne of ore extracted
– motor vehicles produced per worker per day
– ‘weighted inlier equivalent separations’ per occupied bed day (in hospitals)
– incoming calls answered per hour (in a call centre)
 For an entire economy, ‘productivity’ is measured as
– output (gross product or value added) per unit of labour input (usually hours worked) – labour productivity
– or output per unit of labour and capital services input – ‘multi-factor’ productivity

Why does productivity matter?
‘Productivity … isn’t everything, but in the long run it’s nearly everything’
Paul Krugman, The Age of Diminished Expectations (1994)
‘Productivity is the prime determinant in the long run of a nation’s standard of living, for it is the root cause of per capita national income. High productivity not only supports high levels of income but allows citizens the option of choosing more leisure instead of longer working hours. It also creates the national income that is taxed to pay for public services which again boosts the standard of living.
The capacity to be highly productive also allows a nation’s firms to meet stringent social standards which improve the standard of living, such as in health and safety, equal opportunity and environmental impact’
Michael E Porter, The Competitive Advantage of Nations (1991)
3

Senior Australian policy-makers see it the same way
‘[productivity] … is the only real basis for optimism about future income’
RBA Governor Glenn Stevens, July 2009
‘there is only one source of ongoing higher rates of growth of real per capita incomes, and that is higher rates of growth of productivity’
RBA Governor Glenn Stevens, July 2011
‘in the long run, productivity growth – producing more from the same inputs – is the only sustainable way for future generations to enjoy higher living standards’
Treasury Secretary Martin Parkinson, July 2011
4

Productivity is one of the “three P’s” of long-run economic growth
GDP =
Population x Labour force
Population x Employment
Labour force x Hours worked
Employment x GDP
Hours worked
( labour force participation rate )
( 1 – unemployment rate )
( average hours worked )
( labour productivity )
5

Productivity isn’t everything …
 Productivity is measured, at the aggregate level, as gross value added or GDP per unit of factor input(s)
– and we know that GDP – or even GDP per capita – are incomplete and inadequate measures of ‘well-being ’
 Pursuit of other appropriate or desirable objectives may detract from measured productivity growth
– for example, promoting greater labour force participation by people with low skills or who have been marginalized or excluded from the labour force
 There may be a conflict between productivity and ‘allocative efficiency’
– that is, shifting resources into ‘high productivity’ sectors like mining or finance may lift measured productivity but fail to satisfy patterns of demand

.. But productivity growth can play a vital role in confronting some of Australia’s medium-term challenges
 Demographic change
– which will detract from economic growth through slower population growth, lower levels of labour force participation and lower average hours worked
 Helping non-resource tradeexposed industries survive the ‘resources boom’
– in particular those affected by a strong dollar (manufacturing, agriculture, tourism, higher education) and higher interest rates (construction, retailing)
 Reconciling the looming conflict between environmental constraints on resource depletion and ongoing human aspirations for rising standards of living over time
– strong ‘multi-factor’ productivity growth offers the possibility of continued growth in per capita GDP with less intensive (and possibly even zero growth in) environmental resources

Australia’s labour productivity growth rate has slumped over the past decade ….
Labour productivity growth
% pa (5-year rolling averages)
‘Selected sectors’
‘Market’ sector
Whole economy
Note: ‘Selected sectors’ are agriculture, forestry & fishing; mining; manufacturing; electricity, gas, water & waste services; construction; wholesale trade; retail trade; accommodation & food services; transport, postal & warehousing; information, media & telecommunications; financial & insurance services; and arts & recreation services. ‘Market sector’ comprises these sectors plus rental, hiring & real estate services; professional, scientific & technical services; administrative & support services; and other services. Data are for financial years ended 30 June. Sources: ABS; Grattan Institute.
8

… despite a substantial increase in the amount of capital available to each worker, on average …
Capital-labour ratio
2008-09 = 100
‘Selected sectors’
‘Market’ sector
Note: ‘ market sector’ and ‘selected sectors’ are as defined for previous chart. Data are for financial years ended 30 June. Sources: ABS;
Grattan Institute.

… implying that the slowdown in ‘multi-factor’ productivity growth has been even more pronounced
‘Multi-factor’ productivity growth
% pa (5-year rolling averages)
‘Selected sectors’ ‘Market’ sector
Note: ‘Selected sectors’ are agriculture, forestry & fishing; mining; manufacturing; electricity, gas, water & waste services; construction; wholesale trade; retail trade; accommodation & food services; transport, postal & warehousing; information, media & telecommunications; financial & insurance services; and arts & recreation services. ‘Market sector’ comprises these sectors plus rental, hiring & real estate services; professional, scientific & technical services; administrative & support services; and other services. Data are for financial years ended 30 June. Sources: ABS; Grattan Institute.
10

Productivity growth has slowed in most OECD countries, but not by as much as in Australia
Labour productivity
% pa (5-year rolling averages)
Multi-factor productivity
% pa (5-year rolling averages)
Australia
OECD
Australia OECD
Note: OECD labour inputs measured as persons employed (as opposed to hours worked).
Sources: ABS; OECD; The Conference Board.
11

Relative to the US, Australian labour productivity is now lower than it was in the late 1980s and early 1990s
Australian labour productivity as a percentage of the US
92
91
90
89
88
87
86
85
84
80
%
85 90 95 00 05
Sources: The Conference Board Total Economy Database, January 2011, www.conference-board.org/data/economydatabase/ ;
Grattan Institute.
12
10

Faster population growth has largely offset the impact of slower productivity growth on overall economic growth
Sources of real GDP growth (1989-90 to 2009-10)
Sources: ABS, Grattan Institute.
P 13

… while the huge gains in Australia’s terms of trade have produced an acceleration in domestic income growth
Sources of real GDI growth (1989-90 to 2009-10)
Note: ‘GDI’ (gross domestic income) is GDP adjusted for changes in the terms of trade.
Sources: ABS, Grattan Institute.
P 14

Perverse trends in mining sector productivity have detracted from Australia’s overall performance …
Mining sector factor inputs and outputs
Index (2008-09 = 100)
Mining sector productivity
Index (2008-09 = 100)
Output
Multifactor
Labour
Capital
Labour
Source : ABS 15

… as have similar developments in the electricity, gas, water and waste services (utilities) sector
Utilities sector factor inputs and outputs
Index (2008-09 = 100)
Utilities sector productivity
Index (2008-09 = 100)
Labour
Capital
Multifactor
Output
Labour
Source : ABS 16

But mining and utilities account for less than 12½% of gross value added, and less than 15% of ‘market’ GVA
Shares of total gross value added, 2009-10
Dwelling
'Non-market' ship sectors owner-
Mining
Utilities
Shares of ‘market sector’ gross value added, 2009-10
Utilities
Mining
Other 'market sectors' Other 'market sectors'
Source : ABS
17

ABS national accounts & hours worked data can be used to construct ‘additive’ measures of labour productivity
Estimates of the dollar value of output per hour worked, 2009-10
Note: Aggregate hours worked for each sector derived by ‘grossing up’ estimates of average hours worked in the survey week for the middle month of each quarter. ‘Output’ is gross value added.
Sources: ABS); Grattan Institute.
18

These estimates produce quite similar estimates of aggregate productivity growth to those compiled by ABS
Estimates of market sector labour productivity compared
2008-09 = 100 2008-09 chain volume $ per hour
Grattan measure of gross value added in industry per hour worked
(right scale)
ABS index measure
(left scale)
Note: left and right scales are equi-proportional.
Sources: ABS; Grattan Institute calculations.
19

Declines in mining & utilities sector productivity account for less than 10% of the drop in the overall growth rate
‘Market sector’ (10 industries) ‘Selected sectors’ (14 industries)
% pa (5-year rolling average)
Excl. mining and utilities
% pa (5-year rolling average)
Excl. mining and utilities
‘Market sector’
‘Selected sectors’
Sources: ABS; Grattan Institute calculations.
20

What else could explain the general slowdown in labour productivity growth over the past decade?
 As the Australian economy moved closer to ‘full employment’ additional labour and capital inputs are likely to have been increasingly less productive
 Capacity constraints – shortages of skilled labour, infrastructure bottlenecks etc. – resulted in increasing amounts of ‘down time’ detracting from productivity
 Generally buoyant corporate profitability may have diminished the importance to management of seeking out productivity improvements
– according to a survey by Telstra, while 76% of large organizations regard improving productivity as ‘an important business priority’, only 24% have actually achieved significant productivity improvement over the last 12 months
 Dearth of productivityenhancing ‘micro-economic’ reforms since around 2000
– most of the ‘low hanging fruit’ have been picked
– and in the absence of any sense of ‘economic crisis’ there has been no political imperative for productivity-enhancing reform
 Instead there’s been an increase in regulation motivated by an apparent desire to eliminate risk irrespective of probability or cost
– for example, airport security, corporate governance, access to children, speed limits
 There’s been some slowing in the rate of diffusion of productivity-enhancing technologies since the late 1990s
– and Australia doesn’t rank as highly on these measures as it did at that time
21

Australia’s ‘innovation ranking’ (as measured by the
World Economic Forum) has fallen
Australia’s World Economic Forum Innovation Index ranking
Global Competitiveness
Index: Innovation Pillar
(12)
Growth Competitiveness
Index: Innovation Subindex
Source: World Economic Forum, Global Competitiveness Reports

Australia now typically ranks between 15 th and 22 nd in terms of innovation and take-up of new technologies
Top
Ranking
Countries:
Global Comp.
Report
–
Innovation
1. USA
2. Switzerland
3. Finland
4. Japan
5. Sweden
6. Israel
7. Taiwan, China
8. Germany
9. Singapore
10. Denmark
11. Canada
12. Korea, Rep.
13. Netherlands
14. UK
15. Belgium
16. Luxembourg
17. Iceland
18. Norway
19. France
20. Austria
21. Australia
22. Ireland
Global
Innovation
Index
1. Iceland
2. Sweden
3. Hong Kong
4. Switzerland
5. Denmark
6. Finland
7. Singapore
8. Netherlands
9. New Zealand
10. Norway
11. USA
12. Canada
13. Japan
14. UK
15. Luxembourg
16. Germany
17. Belgium
18. Australia
19. Ireland
20. Korea, Rep.
21. Austria
22. France
Year:
Author:
2010-11
World Economic
Forum
139
2009-10
INSEAD
Countries: 132
Sources: INSEAD, Global Innovation Index 2007 and 2009-10.
Benchmarking
EU & US
Innovation
1. Singapore
2. Sweden
3. Luxembourg
4. Denmark
5. South Korea
6. USA
7. Finland
8. UK
9. Japan
10. Netherlands
11. France
12. Ireland
13. Belgium
14. Germany
15. Canada
16. Austria
17. Australia
18. Czech Rep.
19. Estonia
20. Spain
21. Hungary
22. Lithuania
2009
ITIF
40
The Innovation
Imperative in
Manufacturing
1. Singapore
2. South Korea
3. Switzerland
4. Iceland
5. Ireland
6. Hong Kong
7. Finland
8. USA
9. Japan
10. Sweden
11. Denmark
12. Netherlands
13. Luxembourg
14. Canada
15. UK
16. Israel
17. Austria
18. Norway
19. Germany
20. France
21. Malaysia
22. Australia
EIU Report
1. Japan
2. Switzerland
3. USA
4. Sweden
5. Finland
6. Germany
7. Denmark
8. Taiwan
9. Netherlands
10. Israel
11. Austria
12. France
13. Canada
14. Belgium
15. South Korea
16. Norway
17. Singapore
18. UK
19. Ireland
20. Italy
21. Australia
22. New Zealand
2009
Boston Consulting
Group
110
2007
Economist
Intelligence Unit
82
How Canada
Performs -
Innovation
1. Switzerland
2. Ireland
3. USA
4. Japan
5. Sweden
6. Germany
7. UK
8. Netherlands
9. Finland
10. France
11. Denmark
12. Belgium
13. Austria
14. Canada
15. Australia
16. Italy
17. Norway
2010
Canada
Conference Board
17

Education can make an important contribution to lifting productivity growth – although it’s not clear that it has
 In principle, education should make a substantial contribution to improving productivity performance
– by increasing the skills and abilities of individual workers
– by raising the flexibility of workplace teams
– by allowing for the more rapid utilization and transmission of new skills and production technologies, and
– by fostering the creation of knowledge, ideas and technological innovation
 International research suggests a positive association between educational attainment and economic growth
–
OECD research suggests each additional year of schooling in the adult population boosts longrun economic growth by between ¼ and ¾ percentage points per annum, or by anywhere between 6 and 19% in total
 However, research has struggled to identify any meaningful link between higher levels of educational attainment and the improvement in Australia’s productivity performance during the 1990s
– ‘there appears to have been no significant acceleration in workforce skills in the
1990s’ − Gary Banks, Productivity Commission Chairman (2003)
– ‘skill upgrading has played, at best, a modest role in GDP growth per employed person in … Australia’ − OECD ‘Sources of Economic Growth’ (2002)
24

There’s no question that formal levels of educational attainment among the Australian population have risen …
Measures of Australian educational attainment
36
35
34
33
39 %
38
37
% of 15-64 year olds who haven't completed
Year 12 (left scale)
% of 25-64 year olds with bachelor's degree or higher
(right scale)
32 14
31 12
30
90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09
Source: ABS Social Trends and Education and Work.
10
25
% 28
26
24
22
20
18
16

… and resources available for school education, in particular, have increased
Staff-student ratios, secondary schools
12.4
12.2
12.0
13.0
%
12.8
12.6
All schools
Government
11.8
11.6
Non-government
11.4
90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09
Source: ABS Social Trends. Series for all schools includes non-teaching staff.
26

More recent research suggests that the quality of education is more important than the quantity of it
Years of education vs economic growth
Test scores vs economic growth
‘one standard deviation in test scores … is associated with a two percentage points higher average annual growth rate in GDP per capita across 40 years’
Source: Eric Hanushek & Ludger Wößman, ‘The Role of Education Quality in Economic Growth’, World Bank Policy Research
Paper 4122 (2007); The World Bank, Education Quality and Economic Growth (2007). 27

Latest results from the OECD’s Program for International
Student Assessment (PISA) reveal challenges for Australia
 Average scores of Australian students in reading literacy and mathematical literacy have declined significantly over the past few years
 There are some large ‘gender gaps’ in reading and mathematics
– in reading literacy, females achieve at a much higher level than males
– in mathematics, with males outperforming females
 Students in remote locations have an average score in reading literacy almost two years of schooling lower than that of students in metropolitan schools
 Despite the better than average scores, significant levels of educational disadvantage related to socioeconomic background exist in Australia
– the performance gap between students of the same age from different backgrounds can be equivalent to up to three years of schooling
– this gap places an unacceptable proportion of 15-year-old students at serious risk of not achieving levels sufficient for them to effectively participate in the 21st century workforce and to contribute to Australia as productive citizens
 ‘Australia’s high SES students on average achieve outstandingly good outcomes by international standards, whereas the outcomes are comparatively mediocre for low SES students’
–
Peter Dawkins (former Secretary of Victorian Education Department , 2010)
28

Australia was the only ‘high performing’ country to show a significant decline in reading literacy between PISA 2000 & 2009
500
450
400
350
Mean reading literacy scores, PISA 2000 and PISA 2009
600 % per annum
PISA 2000
PISA 2009
550
Source: Thomson et al, Challenges for Australian Education: Results from PISA 2009 , ACER.
29

Mathematical literacy of Australian students declined significantly between PISA 2003 and 2009
500
450
400
350
Mean mathematical literacy scores, PISA 2003 and PISA 2009
600 % per annum
PISA 2003
PISA 2009
550
Source: Thomson et al, Challenges for Australian Education: Results from PISA 2009 , ACER.
30

Australian students’ scientific literacy was unchanged between 2006 and 2009
500
450
400
350
Mean reading literacy scores, PISA 2006 and PISA 2009
600 % per annum
PISA 2006
PISA 2009
550
NZ N UK U
Source: Thomson et al, Challenges for Australian Education: Results from PISA 2009 , ACER.
31

What could be done to improve Australia’s productivity performance?
 Re-invigorated commitment to productivity-enhancing reforms
– some sectors have previously been exempted from such reforms (health insurance, international aviation, agricultural marketing, pharmacies, newsagencies, professional services; and hospitals, schools, public transport and policing)
– and achieving real progress in COAG regulatory reform agenda
 Taxation reform
– with a view to reducing the extent to which provisions in the tax system distort decision-making
 Further promotion of education and skills acquisition
– focussing in particular on engineering and science, skilled trades etc
– may require significant reform of vocational education system and funding
 Targeted infrastructure investment
– need mechanisms to ensure the ‘right infrastructure in the right places’ with sensible pricing and access
 Serious effort to improve Australia’s innovation effort
– not simply about R&D spending but about access to risk finance, linkages with research institutions, relevant skills and commercialization
 Greater awareness of the productivity impact of policies pursued with other objectives in mind
32