Waking up to a productivity promised land

You wouldn't know it from news reports, but a cyclical improvement in productivity growth appears to be underway. This sudden turnaround has been a long time in the making.

"Australia’s productivity surges” wrote no good headline writer, ever.

Good news, you see, is harder to sell than bad. And no business leader ever made a buck crowing in the media that things are OK. Far better to issue warnings of impending doom to get want you want – i.e. more flexibility to hire and fire workers.

Indeed, the business drones have been banging the drum about Australia’s poor productivity performance for years now.

But what if our so called productivity problem disappeared over night?

Wednesday’s national accounts report suggest just that.

A key measure of productivity – gross domestic product per hour worked – grew at a rapid clip of 3.5 per cent last year. But you’d struggle to find that reported anywhere today.

Which is odd to economists because productivity is, in the long run, the only thing that matters (that and whether Julia Gillard has new glasses).

Productivity is a measure of how efficient we are at doing what we do, or more particularly, the economy’s output per hour worked.

It’s not about working longer, but smarter. Because higher productivity increases our ability to generate more income from the same inputs of labour and capital, it is the only sure-fire path to higher living standards in the long term that we know of. (Another good way is just to get foreigners to pay more for your output. But you can only get away with that for so long, as falling commodity prices show).

Australia’s history of declining productivity growth is well known. In the 1970s and 1980s, productivity growth was not too bad. In the 1990s it picked up strongly. While the trend was apparent in other developed countries, economists have largely attributed this pick-up to the pro-market, liberalisation reforms of the 1980s: the floating of the dollar, decentralisation of wage bargaining, deregulation of the finance industry, removal of tariffs and winding back of industry assistance.

In the 2000s productivity growth slowed dramatically.

The boom in commodity prices sparked a huge ramp up in mining sector expansion plans. Because it takes many years for mining production to come online – for the iron ore to actually hit ships to earn export income – this investment phase involves a lot of upfront labour for not much output. This decreases measured productivity.

Now, those exports are starting to flow. For the first time in a long time, net exports are contributing to GDP growth again. A surge in mining export volumes contributed 1 percentage point to the 0.6 per cent growth recorded in the December quarter.

And so a large reason for the poor productivity growth of the 2000s now looks to be reversing.

But productivity growth has been poor across a range of industries in Australia.

Utilities have also been a particular soft spot. Why? One reason is that "gold plating” by electricity companies of the electricity distribution network – poles and wires – to sure up the resilience of electricity supply for peak demand involves many labour hours, but not necessarily any more output.

Similarly, building desalination plants you don’t need or use much also creates hours worked, but not much output.

But the bigger story on Australia’s poor productivity performance over the last decade is one of fattened business practices in a time of plenty. And it is this that now appears to be unwinding.

Australia is celebrating 21 years of consecutive economic growth – unmatched by any OECD nation for the period.

It’s harsh but true that the biggest driver of improvements in productivity is the closure of inefficient firms. It’s a difficult process. And not all of the old employees will be retrained and make a productive contribution in new jobs. Many will simply retire, or shift onto disability or other support payments and drop out of the labour force entirely.

But the new graduates will emerge to work in more productive and efficient firms, and this increases productivity overall.

While Australia has escaped the ignominy of an official recession – two consecutive quarters of negative growth – the business cycle is far from dead.

There has been a noticeable downturn in economic activity since the GFC. The high dollar has certainty forced more firms to adopt "productivity enhancing strategies” – that’s sacking workers to you and me. Firms have gone belly up. To the extent that they were inefficient firms, this has boosted productivity.

The Australian dollar is forcing a rethink of the viability of many businesses in manufacturing, tourism and education services. But it’s not just the dollar.

The construction industry is also adjusting to lower demand. Whereas before the GFC, there was a shortage of skilled tradespeople, jobs in construction these days are harder to come by. Construction has still been growing overall – albeit sluggishly – but the industry has shed labour, meaning productivity is going up.

Similarly, retailers are telling us that consumers are no longer as willing to buy, preferring instead to purchase online or not at all. Retailers – the biggest employers in the country – have been shedding staff.

It’s painful. But when people who aren’t very good at doing business go out of business, this improves productivity.

So a cyclical improvement in productivity growth now appears to be underway.

But where will the next wave of productivity come from?

Here it is hard to overlook the increasing congestion in our major cities, and Sydney in particular. Peak hour commutes continue to blow out and it’s not just an inconvenience for travellers. When a tradie can’t get to a job on time because of traffic, that is lost output per hour worked – that affects productivity.

With urban infrastructure failing to keep up with population growth, it is becoming apparent that a new wave of infrastructure investment is needed to boost national productivity. I have elsewhere suggested we need to beef up Infrastructure Australia to be like the Reserve Bank, with independent power to do analysis of projects and determine funding. In addition, appropriate road pricing and congestion charges would assist.

Breaking up cartels – hidden in plain sight – like the pharmacists guild would also free up talented and intelligent people to perform more productive work. Why have multiple local pharmacies when a supermarket would do for most purchases?

Similarly, reforms are needed to break down artificial barriers between what doctors can do (and charge for) in situations where nurses might be just as capable.

And don’t get me started on lawyers. Why do some of our best and brightest university graduates go on to a life drawing up property conveyancing contracts?

Perhaps it's good the media doesn’t celebrate when productivity improves.

Because the truth about productivity is, we could always do better.

Jessica Irvine is the national economics editor of News Limited’s metropolitan daily newspapers, including The Daily Telegraph, The Herald Sun, The Courier Mail and The Adelaide Advertiser.