A few home truths about productivity

We need to guard against letting interest groups and political parties hijack the issue for their benefit, writes Tim Colebatch.

In the long run, productivity is what drives economic growth. And right now people on all sides are looking to it to drive Australia's growth as the record mining investment falls away.

The issue is barely surfacing in the election campaign. But Kevin Rudd began his second stint as Prime Minister by calling for "a new productivity pact" between business, unions and government, and setting out seven issues he wanted to tackle.

And the Coalition reminds us that, until recently, productivity growth had slowed to a crawl, which it blamed on the Labor government. It's just like old times: Labor used to blame the same productivity slump on the Howard government.

And if in 1989 every galah in the pet shops was squawking about micro-economic reform, as Paul Keating grumbled, these days every interest group tries to sell its preferred reforms with the claim that they would increase productivity.

Beware. Productivity is an important issue. We need to guard against letting interest groups and political parties hijack it for their benefit. Before we start, we should fix several caveats in mind.

First, it is true that Australia's productivity growth has declined sharply this century. In a paper to last year's Reserve Bank conference, Productivity: The Lost Decade, Saul Eslake, chief Australian economist at Bank of America Merrill Lynch, noted that labour productivity growth slowed from 2.1 per cent a year in the 1990s to 1.5 per cent in the 2000s.

Above all, multi-factor productivity went into sharp reverse, from growth of 1.6 per cent a year in the 1990s to zero in the 2000s.

(A word on definitions. Labour productivity is the value of output per hour worked. Multi-factor productivity is the value of output per hour worked and per unit of capital stock. Or as Eslake puts it more broadly: "Productivity is what a workplace, a business or a nation gets by way of goods and services for what it puts in: labour, capital and other factors of production. In a word, it's efficiency.) Second, the main driving force of productivity growth is decisions made by business itself. When times are good, firms tend to grow more relaxed about costs, staffing levels, inefficiencies of all sorts. When times are bad, they fix them, and often go beyond that to look for radical changes that could enable them to produce more with less.

Governments certainly have a role, but mostly to remove obstacles to efficient use of resources. They can build infrastructure to provide transport systems that allow efficient logistics.

They can remove excessive regulations that eat up workers' time and government resources (I'd love to see a cost-benefit analysis on the productivity of the airport security folk who frisk us for chemical residues. It must be close to zero.)

Governments can help produce workers with the skills business needs, get the balance right in industrial relations legislation, so that it protects workers from exploitation without preventing firms from using them

efficiently. And they can fix problems created by government itself that drive up costs - such as the poorly designed regulation that has led electricity prices to double in a decade.

But in the end, productivity is the responsibility of the firm itself. Eslake quips that a few bad years for the economy would do wonders for productivity. And that's exactly what is happening now: in the two years to March, labour productivity shot up 5.2 per cent - more growth than in the previous seven years.

Third, the causes for the productivity slowdown have been widely debated by Treasury, the Reserve Bank, the Productivity Commission with economists such as Eslake, John Edwards, John Quiggin and many others. It is fair to say there is a strong consensus that while part of it reflects a genuine slowing in productivity growth, probably most of the slowdown is a statistical mirage reflecting the impact of massive mining investment.

In the construction phase, as we have been in up to now, the capital value of mines grows rapidly, without any increase in output. But that then gives way to the production and export phase, when, with far fewer workers than in the construction phase, the mine suddenly produces great output.

We can confidently predict that, whereas labour productivity in mining halved in the decade to 2012, it will double in the next decade. It might even treble. This will have nothing to do with government - although whoever rules will try to claim the credit - and everything to do with the transition from the investment to the production stage.

The other industries that played a huge part in slowing productivity growth were electricity, gas and water. Labour productivity in the sectors has slumped 43 per cent since 1998, mostly for two reasons: the boom in building expensive transmission lines, essentially so regulators will allow higher prices, and the long drought, which reduced the amount of water produced, at a time when water authorities too were investing.

You can be pretty sure that productivity in that industry will also surge in future - and that it will have little to do with government, other than a long-overdue reform to remove the incentive for over-investment in electricity.

Fourth, in the long run productivity may be almost everything, as economist Paul Krugman put it, but it isn't everything. For a nation, the ultimate economic goal is to have rising output per head, produced on a sustainable basis, distributed fairly, with jobs for everyone who wants to work. Productivity is the main means to that end, but workforce participation is the other.

Australia is nowhere near full employment. Officially, unemployment is now about 700,000, or 5.7 per cent of the workforce, and tipped to rise to 800,000 by June. But the official global definition of unemployment is a very restrictive one. That's why the Bureau of Statistics also measures underemployment, and finds that a further 900,000 workers are working less than they want to - on average, 15 hours a week less.

Pollster Gary Morgan and his team ask people whether they consider themselves unemployed. His latest report is that 10.1 per cent of working-age Australians see themselves as unemployed - almost double the official estimate - and a further 9 per cent see themselves as underemployed. Bureau figures show 10 per cent of Australian men of prime working age (25 to 54) are not even in the workforce.

On top of that, 2.6 million baby boomers will turn 65 within the next decade. On present trends, most will retire then, or earlier, then spend 25 to 30 years in retirement, as the normal human lifespan stretches to 90 and beyond.

Many would be able and willing to keep working - but the Howard government only added new incentives for early retirement, and Labor's reforms to increase the pension age to 67 would apply only in 2023, long after most baby boomers have already retired. Too little, too late.

Five ideas to increase productivity and workforce participation:

■Increase investment in transport infrastructure, but instead of marginal glam projects like the East-West Link, focus on the smaller ones (such as removing time-wasting level crossings) that will deliver the biggest bang for buck in reducing congestion.

■Appoint a bipartisan panel of problem-solvers to find a way to cut penalty and overtime rates back to sensible levels, so business can get better use of its capital stock, within a package that minimises the losses to workers who depend on them.

■End the bureaucratic culture of knee-jerk, heavy-handed regulation, which lives on despite endless promises by Coalition and Labor governments alike to "slash red tape".

■Go after the kids most vulnerable to dropping out, with a new approach that brings together the agencies tackling drugs, homelessness, mental illness, unemployment and training, and offers them a job, a home, treatment and training, so they become lifetime contributors to society rather than lifetime burdens on it.

■End the early retirement of the baby boomers by aligning the age at which one can take superannuation with the pension age, and increasing both to 67 by 2018 and 70 by 2024.