PC Productivity Update 2013

• Productivity growth is an important source of future real income growth. However, the latest ABS statistics show that the slowdown in market sector multifactor productivity (MFP) growth that began in Australia in 2004-05 continued into 2011-12.
• The Commission's industry level analysis suggests that while some temporary factors are at play, structural forces in the economy are driving up input use without a commensurate increase in outputs.
• In terms of temporary factors:
  • Massive capital expenditure programs in Mining and Utilities have increased input growth well ahead of output growth. MFP growth should improve as investment slows and newly installed capacity is more fully utilised.
  • The last decade has been a testing time for many Australian businesses. Natural disasters, including major droughts and floods have been a drag on output, while economic conditions in many overseas economies have been weak. A high Australian dollar has adversely affected exporters and import competing industries.
  • Many businesses have retained much of their labour and physical capital, despite lower demand for their outputs, on the expectation of improved business conditions.
  • Strong growth in labour productivity in the December quarter of 2012-13 could be a sign that a broader improvement in MFP growth is now underway.
• Structural factors have raised production costs (lowered MFP) on a more enduring basis:
  • In Mining, newly developed deposits are generally deeper underground, further offshore, more distant from existing infrastructure, or of lower quality or grade. They require more labour and physical capital per unit of output (on average) than previously established mines, but are profitable as long as prices for their outputs are high.
  • In Utilities, input use has risen to enhance the environment, amenity, safety and reliability of supply. These benefits are not captured in the measured volume of industry output, and thus measured productivity is lower.
  • Growing peak demand for power has lowered the overall efficiency of the electricity supply system. This loss could be reduced if policy reforms can slow the growth in peak demand (relative to average demand).
• Slow or negative MFP growth in Manufacturing and Finance and insurance services in recent years has been a major drag on the economy-wide result. The Commission is researching these industries to draw out the relevant policy issues.
• Commission modelling shows that a comparatively small increase in the rate of labour productivity growth (primarily due to higher MFP growth) could lead to a comparatively large increase in the level of real GDP per person by 2050.

Background information

Vernon Topp (Research Manager) 02 6240 3315

The Chairman of the Productivity Commission, Peter Harris, has released the first issue of the PC Productivity Update. The Update is an easily readable guide to the concept of productivity and to the latest developments in Australia's productivity performance. The Commission intends to provide more accessible and up to date reference material in this form in future, and in doing so to provide some explanations for trends.

Mr Harris said, 'Australia's productivity performance has a major influence on our national income growth and consequently on the well-being of all Australians. Productivity growth requires that impediments to innovation, technological improvement and reorganisation of production are continuously reviewed and removed. This is how, over the medium term, we best cope with structural changes such as rapid exchange rate movements, our ageing population and potential global economic shocks.'

Australia's productivity growth has been poor over the past decade, despite labour productivity's recent recovery. The Productivity Update identifies the key influences behind the slowdown.

Some influences cited in the Update as dragging down productivity may have been temporary, such as expansions in mining and utilities that have seen capital expenditure run ahead of production; and drought. But the overall picture is one of the need for ongoing reform of the micro economy.

'It is one thing to explain some of reasons for poor performance, but another thing entirely to think this means we need not keep on with reform. Productivity improvement, if not continuously pursued, raises the risk profile of the economy.' Mr Harris said. Future editions of the PC Productivity Update will come out in the March quarter of each year. Each edition will unpack the latest ABS productivity estimates and report on the findings of the Commission's most recent productivity research.

Mr Harris said that it is important to regularly examine Australia's productivity performance. 'There needs to be an informed public debate and policy discussion. Accordingly, the target audience for the Update is wide ranging, including policy practitioners and advisers, businesses, lobby groups, researchers and, importantly, the interested public.'