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Productivity takes a breather

May 26th, 2004

That’s the headline the Fin gave to an Op-Ed piece by Dean Parham today. This is, as far as I know the first acknowledgement from official sources of the productivity growth slowdown of the last four or five years. It’s significant because Parham is the most prominent advocate of the hypothesis that microeconomic reform has generated a new economy.

It’s subscription only, but I’ve excerpted a bit that gives the flavor.

Australia’s productivity growth in the mid-to-late 1990s was indeed remarkable. At 1.8 per cent a year, multifactor (combined labour and capital) productivity was three times higher than the previous average from the early 1980s.

And it should be remembered that the 1980s rate was not expected to improve. There was widespread pessimism in that period about the outlook for growth in Australia’s productivity and living standards.

While productivity stagnated in many major economies of the Organisation for Economic Co-operation and Development in the 1990s, Australia recorded one of the strongest productivity accelerations. It reversed the pattern over at least the four previous decades in which Australia performed poorly compared with other OECD countries.

Some now think the slower productivity growth in Australia over the past few years signals that our productivity surge is over. But there is evidence the slowdown simply reflects a series of temporary factors not the least of which is drought. In my view, the ABS estimates are likely to show a continuation of strong underlying growth once the effects of the drought cease to play a role.

So why has Australia’s productivity performance improved overall since the mid-1990s?

A few sceptics resist the evidence that microeconomic policy reforms provide a major explanation. One argument is that technology specifically, information and communications technology (ICT) has mattered more. (John Quiggin, AFR Opinion, April 22)

ICT has played a part. But technology, policy and institutional influences are inter-related.

As noted, Parham expects the slowdown to be temporary, mentioning the drought and other (unspecified) temporary factors. I’ll be looking into this as soon as I get time.

For the moment, I’ll just make the observation that if we are going to take out the impact of the drought in the last few years (and I think we should) it’s equally necessary to make a downward adjustment to the productivity growth spurt of the mid-90s which was assisted by a series of relatively good years.

As an aside, it’s important not to treat years of good rainfall as normal and droughts as disasters that should be treated as exceptional. In Australia high and low rainfall years occur as a natural part of the cycle, and policy analysis should always be based on this premise.

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  1. May 26th, 2004 at 14:13 | #1

    Its certainly shifting the goal posts to count the drought as some recent exogenous blemish that spoilt an otherwise perfect record.
    The real issue is whether or not the productivity growth rate of the AUstralian economy has step-changed up from 1% to 2% pa.
    If the thesis of the micro-economic New Economy reformers is true, the free-market regulation of industrial organisation will automatically translate improvements in underlying knowledge and efforts into a higher rate of growth in income, not just once off, but at a continuing high rate.
    If the thesis of the techno-boosting New Economy reformers is true, then the application of high-tech capital innovations will translate into a higher rate of growth in income as enterprises realise the demand for a new generation of improved gadgets.
    Given the slow down in productivity growth in low-tech, real-estate obsessed, eco rationalist Australia and the uptick in productivity growth in high-tech, equity-obsessed, social democrat Finland I conclude that the latter New Economy hypothesis is confirmed.
    America is a country which has embraced both New Economies, free-market and hi-tech. So it is a complicated and confusing country to bench mark productivity gains against.

  2. May 27th, 2004 at 04:48 | #2

    Interesting debate.

    First a data caveat. Given the often extensive revisions to national accounts, particularly since the move to a chain weighted index, one should be a little cautious about treating as gospel the conclusion that we have indeed seen a significant productivity slowdown since the mid-1990s.

    I’m also a bit sceptical about the drought thesis – surely using non-farm output (and possibly also excluding food manufacturing) could adjust for most of that distortion?

    But a few other potential explanations for a slowdown spring to mind. If the productivity surge from the late 1980s was largely the result of microeconomic reform and tariff reduction, as we were told at the time, then much of that one-off boost from those reforms will be long gone. After all, you can only privatise/deregulate/downsize etc once… (Telstra aside).

    Likewise the productivity gains from the switch from the Accord’s centralised wage restraint to decentralised productivity bargaining also ran its course some time back – by the mid 1990s the bargaining sector had stabilised at 35-40% of the workforce and about half the total wage bill.

    In short, we may have seen a (welcome) step change in productivity levels over a 5+ year period from these reforms, rather than a continuous uptick to productivity growth rates. Many economists had expected this would be the case, myself included, but it is only lately we have had a long enough run of data to confirm the ‘big bang’ thesis rather than the alternative ‘permanent revolution’ view (yes I know I am mixing cosmological and political concepts).

    Nowadays there is now much less capacity to reap substantial productivity gains from further tariff reductions, micro reform etc than two decades ago. And the productivity boost, if any, from second order reforms such as the GST are likely to have been very modest indeed. Productivity gains are still possible, but the low hanging fruit have largely been picked.

    A second factor, though probably less important one, is that more than a decade of solid growth in Australia at or near full employment has seen many new entrants to the workforce who were previously marginal or economically inactive. That may have reduced the average labour quality/productivity of the Australian workforce (or, at least, slowed its increase) despite the general trend towards upskilling and higher education.

    Where does Australia go now? I’m not as convinced as Jack that the Finnish way (presumably laptops and mobiles galore, saunas in the snow, and plenty of hard liquor) are the way. Or are we really all Californians now? And do we want to be?

    Over to you Dean…

    Grant Fitzner
    (ex-Sydney, now in Whitehall, and most definitely writing in a non-official capacity)

  3. Observa
    May 27th, 2004 at 11:16 | #3

    Perhaps SARS and the Asian meltdown also had some impact on productivity eg the hoarding of labour in airline and tourism sectors.

  4. June 3rd, 2004 at 23:46 | #4

    I think Grant has taken us to the heart of the debate when he identifies the difference between a gain in allocative efficiency due to reduced market barriers and a permanent increase in the level of productivity growth.

    As Q is prone in telling us, standard economic theory only identifies allocative gains from trade liberalisation… and while these would show up as a boost in growth levels for a while, they would not influence the long-run growth level (they adjust the level, not the rate of growth). The other possible impact (the dynamic gains from increased competition) is more debatable. Q doesn’t think it exists. I do.

    But having said that, I think it reasonable to expect that some of the gains from micro reform are allocative, and therefore influence growth in the short term only (though this is obviously still a good thing). All things being equal… I would have expected this growth to have been realised by now and maybe this present slowdown can be attributed to the fact that Howard has undertaken nearly no meaningful micro reform (except for tax increases).

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