Australians need to work smarter – not longer or harder

7 March 2024

The 2022-23 financial year saw a lot of big firsts for the Australian economy – some good and others not so good.

New data has given us a better picture of our record-breaking year, and it has a lot to tell us about what’s happening right now in the economy and the challenges we will face moving forward.

First the good news: unemployment remained low and hours worked by Australians rose by 6.9% over the year – the highest increase ever recorded.

Real wages fell, but gross national income rose by 0.4% over the period. When you put this together, it suggests more Australians were able to find work and sought to increase their pay packets by increasing their hours.

But here’s where the bad news starts.

Given our labour force participation rate remained near its historical high, the scope for households to improve their bottom lines by working more hours is narrowing.

To increase our living standards in a durable way, we need sustainable, long-term wage growth. This can only come through increased productivity. This means making sure that any extra work Australians do is increasing our economic output – working smarter, not harder and longer.

The productivity problem

Unfortunately, in 2022-23, labour productivity fell by 3.7%. This is one of the sharpest falls ever – well-below our long-term average growth rate of 1.3%.

So why did productivity decline? Or put differently, why did our increase in hours worked not create more output?

Some of the reasons are predictable and are no cause for concern. For instance, the effects of the COVID pandemic were still being felt. The pandemic was actually associated with increased productivity, because far fewer people were working but our economic output did not decline at the same rate. As the economy continued to return to normal throughout 2022-23, that effect was unwound, and the ‘productivity bubble’ burst.

But another important driver of our productivity slump last year was that employers didn’t invest quickly enough in the equipment, tools and resources (or ‘capital’) that were needed to make the most of workers’ skills and talents.

As a rule, if workers have access to more capital, each hour worked produces more. We can express that in in terms of the ‘capital-labour ratio’. A higher capital-labour ratio is typically associated with higher productivity.

In 2022-23, Australia’s capital-to-labour ratio fell by 4.9% – yet another record-breaking decline.

This means that the pace of capital investment failed keep up with the rapid increase in hours worked.

Investing in capital is often a big decision – it tends to have a longer-term focus and uncertain payoffs.  And to the extent that investment is irreversible, employers will hold back in the face of greater economic uncertainty.

Even once a decision is taken, investments in equipment, machinery and other capital projects can take a long time to install and bring online.

So, as a rule, capital tends to respond more slowly to rapid changes in economic conditions, relative to the hiring and firing responses we see in the labour market.

The big fall in the capital-to-labour ratio meant that on average, each Australian worker had access to a shrinking amount of capital.

More recent investment data suggests that this may be turning around. Further capital investment would help transform our strong employment growth into strong productivity growth.

Taken together, this new data gives us a much clearer picture of Australia’s productivity problem and confirms how central productivity growth is to improving our living standards.

As concerns about the cost of living persist, implementing policies to ensure Australia works smarter – not longer and harder – are more important than ever.