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1370.0 - Measures of Australia's Progress, 2004  
Previous ISSUE Released at 11:30 AM (CANBERRA TIME) 21/04/2004   
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Contents >> The measures >> Productivity

KEY POINTS


Multifactor productivity
Graph - Multifactor productivity

The relationship of productivity to progressA nation that achieves productivity growth produces more goods and services from its labour, its capital and its land, energy and other resources. Productivity growth can generate higher incomes. Benefits might also accrue in the form of lower output prices.

About the headline indicator and its limitations: Multifactor productivityA nation's productivity is the volume of goods and services it produces (its output) for a given volume of inputs (such as labour and capital). Much, - but not all - of Australia's output growth can be accounted for by increases in the inputs to production. The amount by which output growth exceeds input growth is the productivity improvement.

Productivity can be measured in a variety of ways. The most comprehensive Australian measure available at present is multifactor productivity for the market sector. Multifactor productivity represents that part of the growth in output that cannot be explained by growth in labour and capital inputs.


Productivity: Other indicatorsLabour productivity; Research and development expenditure, proportion of GDP; Investment in software, proportion of GDP; Managers and professionals, proportion of total employment; Proportion of businesses with web site or homepage;Hours and quality adjusted hours worked.

Some differences within AustraliaRates of productivity improvement are not uniform across the whole economy; they can differ appreciably from industry to industry. Estimates of multifactor productivity dissected by industry are not yet available for Australia from the ABS (although the Productivity Commission has produced estimates). But it is possible to examine industry changes in labour productivity (the ratio of output to labour input). These figures must be read with some care, as part of the rise in labour productivity will be due to 'capital deepening' (an increase in the ratio of capital to labour) or to changes in intermediate inputs.

During the last decade, the most rapid increases in labour productivity were achieved by: Wholesale trade (4.7% a year on average), Communication services (4.1% a year on average), Electricity, gas and water supply (3.3% a year on average) and Finance and insurance (3.2% a year on average).


Links to other dimensionsSee also the commentaries National income, Inflation, Competitiveness and openness, Education and training, The natural landscape, Health and Work.



Progress and the headline indicator

A nation's productivity is the volume of goods and services it produces (its output) for a given volume of inputs (such as labour and capital). Much, - but not all - of Australia's output growth can be accounted for by increases in the inputs to production. The amount by which output growth exceeds input growth is the productivity improvement. Australia experienced good productivity improvement in the decade 1992-93 to 2002-03, especially during the five years of the most recent productivity growth cycle (1993-94 to 1998-99), where real output of the market sector grew by an average of 4.6% each year. In part, this reflected average growth rates of 1.3% for labour and 4.7% for capital, or 2.7% for labour and capital combined; the remaining 2.0% of output growth reflected productivity improvement.

Productivity can be measured in a variety of ways. The most comprehensive Australian measure available at present is multifactor productivity for the market sector. Multifactor productivity represents that part of the growth in output that cannot be explained by growth in labour and capital inputs (see box).

A longer term view

Multifactor productivity estimates for Australia extend back to the mid-1960s. The improvement in multifactor productivity recorded during the decade 1992-93 to 2002-03 was 13.9%, averaging 1.3% per year. This was higher than the improvements recorded for the two earlier decades. The improvement for the period 1982-83 (a recession year) to 1992-93 was 10.5%, averaging 1% per year and for 1972-73 to 1982-83, the improvement was 8.4%, averaging 0.8% per year. It should be noted, though, that the 10 year periods used for this analysis do not coincide with productivity growth cycles.

Multifactor productivity: longer term view(a)

Graph - Multifactor productivity: longer term view(a)


Measuring Australia’s productivity
Productivity measures are, in concept, ratios of the form:

Productivity = Output volume / Input volume

This ratio derives from the 'production function':

Output = Productivity * f(Input)

which expresses the notion that growth in the volume of goods and services produced can result from growth in the volume of inputs used in the production process or growth in productivity or a combination of both.

There are many different measures of productivity; the main difference between them lies in which inputs are used in the denominator of the productivity ratio.

The most comprehensive measure of productivity is gross output multifactor productivity, which takes account of all inputs to production. Typically, the inputs are classified into capital (K), labour (L), energy (E), materials (M) and services (S) - and referred to as the KLEMS approach to productivity measurement. In principle, all the output and input measures are adjusted for quality change. But this approach demands a lot of data, and estimates of gross output multifactor productivity are available for industries in few countries.

More easily implemented are value added multifactor productivity (MFP) approaches which typically take account of just two inputs - capital and labour. MFP is the most comprehensive measure of productivity available for Australia at present. In principle, the labour input measure should be adjusted for improvements in the quality of labour (‘human capital’) so such improvements flow through to the MFP measure. Although the current official estimates are not ‘quality-adjusted’, the ABS has recently produced experimental measures of productivity that do allow for changes in the quality of labour. These are discussed in the Some differences within Australia section later on.

If only one input appears in the denominator, a single factor productivity measure is obtained. The most common such measures are labour productivity (the ratio of output to labour input) and capital productivity (the ratio of output to capital input). MFP is superior to such single-factor measures as an indicator of efficiency of resource use because the latter may also reflect substitutions between capital and labour inputs.

The MFP measure available for Australia at present relates to the market sector and does not take account of the efficiency with which inputs from other sectors (such as energy, subsoil assets, materials and services) are used in production.

Some differences within Australia

Rates of productivity improvement are not uniform across the whole economy; they can differ appreciably from industry to industry. ABS estimates of multifactor productivity dissected by industry are not yet available (although the Productivity Commission has produced estimates). But it is possible to examine industry changes in labour productivity (the ratio of output to labour input). These figures must be read with some care; part of the rise in labour productivity will be due to 'capital deepening' (an increase in the ratio of capital to labour).

Labour productivity(a), average annual growth rate - 1992-93 to 2002-2003

Industry(b)
%
Agriculture, forestry and fishing
1.7
Mining
3.0
Manufacturing
2.8
Electricity, gas and water supply
3.3
Construction
1.8
Wholesale trade
4.7
Retail trade
1.9
Accommodation, cafes and restaurants
1.3
Transport and storage
3.1
Communication services
4.1
Finance and insurance
3.2
Health and community services
1.2
Cultural and recreational services
-1.2
All market sector industries
1.9

(a) Gross product per hour worked. (b) Estimates are not availablefor Property and business services, Government administration and defence, Education, and Personal and other services.
Source: Australian System of National Accounts.1


During the decade 1992-93 to 2002-03, the most rapid increases in labour productivity were achieved by: Wholesale trade (4.7% a year on average), Communication services (4.1% a year on average), Electricity, gas and water supply (3.3% a year on average) and Finance and insurance
(3.2% a year on average). Some of these industries have experienced significant technological advance or industrial reorganisation
.

Factors influencing change

A nation's productivity improvement is the outcome of a wide variety of interrelated influences. At the level of the individual firm or industry, key influences include technological advances and improvements to the quality of labour, or to management practices and work arrangements. National productivity may also improve with a shift of labour, capital and other inputs away from firms or industries that produce less output for a given level of input (i.e. are less productive) toward firms or industries that produce more (i.e. are more productive).

Such changes may in turn be prompted or assisted by changes in the overall economic environment, such as increased levels of domestic competition, reduced barriers to resource reallocation and greater openness to the international marketplace.

During the past few decades, successive Australian governments have enacted reforms that have sought to create an economic environment favourable to increased competition, better allocation of resources and more innovation. Key policy influences have included reduction of tariffs and other barriers to international trade, relaxation of barriers to international investment, changes to the structure and rates of taxation, domestic competition policy and reforms to financial, labour and other markets.

Economists continue to investigate the links each of these varied influences has on productivity growth, and many are not yet well understood. Some are discussed below in more detail.

Knowledge and innovation is one influence on productivity. For example, the development of new technologies and the application of these technologies (some of which may be developed in other countries) can improve Australia's productivity and raise national income. No single indicator encapsulates all aspects of knowledge and innovation and so we focus on four aspects for which data are available: some of Australia's investments in knowledge (namely expenditure on research and development and computer software); the number of knowledge-based workers; businesses' use of the Internet; and improvements in the quality of labour.

Knowledge and innovation

Worldwide during recent decades, new goods and services have emerged that account for rapidly growing shares of total expenditure. New production processes and new industries have emerged. Australia's capacity to take advantage of these changes depends on many factors, such as the existence of individuals, firms and institutions that can develop or apply new technologies, especially for the acquisition and sharing of information. There is evidence to suggest that the differences between countries' growth rates can be attributed in part to differences in their investments in information and communications technology and improvements in the quality of labour.2

Measuring knowledge and innovation
There is no single measure that encapsulates all the elements of knowledge and innovation. An array of measures is needed. Aspects relevant to Australia's progress include the following.
  • The economic resources and the number of people devoted to the creation and application of knowledge. Indicators include the proportion of GDP devoted to research and development and the proportion of the workforce employed in knowledge-based fields.
  • The skills and knowledge embodied in the labour force (discussed in the commentary Education).
  • The rate at which current developments in information and knowledge are taken up. Among the most prominent of such developments in recent years are information technology and the Internet. Indicators include the ratio of investment in software to GDP and the proportion of businesses which have their own web site or home page.

Other aspects of knowledge and innovation have a bearing on productivity but are not measured here. One such aspect is organisational innovation. This is seen as particularly important because of its links with firms being able to adapt to change and embrace new technologies.


Research and development expenditure, proportion of GDP — selected years

Graph - Research and development expenditure, proportion of GDP — selected years


Research and development

Research and development (R&D) can be viewed in many ways. One international standard definition is:

      'systematic investigation or experimentation involving innovation or technical risk, the outcome of which is new knowledge, with or without specific practical application, or new or improved products, processes, materials, devices or services'.3
R&D encompasses both basic research (undertaken primarily to acquire new knowledge without a specific or immediate application in view) and applied research. The proportion of Australia's GDP devoted to R&D expenditure rose during the early part of the 1990s, and peaked in 1996-97 at 1.66%. But by 2000-01 it had fallen back to 1.54%.

The proportion of Australian GDP devoted to R&D expenditure is relatively low by international standards. In 1998-99, Australia ranked twelfth among OECD countries; for example, the corresponding proportion for Japan was 2.9%, for the USA 2.6%, for Germany 2.3% and for Canada 1.8%. Its position remained roughly the same in 2000-01. But Australia also imports technology and processes embodying R&D from elsewhere.

The sources of funds for R&D have changed during recent years. In 1988-89 governments funded 64% of the total, but by 2000-01 this had fallen to 46%; during the same period, the proportion funded by business rose from 33% to 46%.

Investment in computer software

In recent years, information technology has become progressively more important to the Australian economy, as it has elsewhere. In this field, innovations are embodied in both hardware and software. Australian investment expenditure on software is one indicator of the rate at which the new technology is being taken up. During the 1990s, Australian investment on software as a proportion of GDP has risen rapidly (from 1.2% in 1992-93 to 1.7% in 2002-03), during a time in which software prices fell.1

Investment in software, proportion of GDP

Graph - Investment in software, proportion of GDP


Knowledge-based workers

The proportion of knowledge-based workers in a country gives some indication of how intensively knowledge is used in its economy.

There are many ways of characterising the people engaged in knowledge-related occupations. One definition includes those employed as:

    • managers and administrators

    • professionals and associate professionals - including those in science and engineering, business and information, health and education.
The proportion of workers engaged in knowledge-related occupations in Australia increased markedly during the past decade, rising from 31% of employees in August 1993 to 38% in August 2001. However, it appears to have stabilised around 38% in the past few years. The number of professionals and associate professionals grew particularly strongly during the period 1993 to 2003 (up 92% in the ten years to August 2003, whereas total employment rose by just 23%).4


Managers and professionals(a), proportion of total employment(b)
Graph - Managers and professionals(a), proportion of total employment(b)


Proportion of businesses with web site or home page - 1998, 2000, 2001 and 2002

1998
2000
2001
2002

No. of employees
%
%
%
%
1-4
4
9
14
15
5-19
8
24
32
34
20-99
21
46
56
55
100 or more
58
68
81
81
All businesses
6
16
22
24

Source: Business Use of Information Technology, various issues,cat. no. 8129.0.5


Business take-up of the Internet

One of the most recent waves of innovation in Australia and other countries is use of the Internet by businesses. More and more firms are using the Internet for business transactions (say, for receiving customer orders). In some industries (such as news and entertainment), services can be delivered to customers through the Internet. Other businesses use the Internet to provide customers with information about the goods and services available.

Recent years have seen a rapid take-up of the Internet by Australian businesses. In June 1998,
6% of businesses had a web site or home page; by June 2002, this proportion had risen to 24%.
5

Business use of information communication technology more generally has also increased in recent times and is associated with productivity growth in several sectors, including Finance and insurance and Wholesale trade.

Quality adjusted labour inputs

Multifactor productivity represents that part of the growth in output that cannot be explained by growth in labour and capital inputs. There are, however, several ways to measure labour inputs. One might look simply at the number of people employed, but such a measure takes no account of changes in the mix of full-time and part-time employees, or, say, changes in overtime. A better measure is the number of hours worked: this is the labour input measure that underlies the estimates of labour and multifactor productivity used in this commentary. But one shortcoming of this measure is that it takes no account of changes in the aggregate quality of labour due to, say, an increase in the prevalence of highly qualified people in the work force.

Changes in the quality of labour are currently ascribed to changes in productivity, but there is an argument that they should be viewed instead as changes in inputs (similar to changes in the mix of different capital services). And so a better measure would be the number of hours worked, adjusted for changes in the quality or composition of labour. Such a series provides some information about the contribution that increased knowledge (characterised by qualifications and (potential) experience) has played in improving the quality of Australia's workforce and, hence, to economic growth. The ABS has recently produced such a series, although it is still regarded as experimental.


Hours worked and quality adjusted hours worked

Graph - Hours worked and quality adjusted hours worked


Because the quality of labour has tended to increase in recent times, the effect of adjusting for changes in the quality of labour input has been to increase the contribution of labour inputs to growth and so decrease labour and multifactor productivity estimates. Over the past 20 years, unadjusted hours worked increased on average by 1.3% a year, whereas quality-adjusted labour inputs increased by 1.5% a year. Positive contributions from changes in the skills and experience of the work force were particularly significant over the periods 1987-88 to 1991-92 and 1995-96 to 1997-98. The changes to labour composition, mean that growth in multifactor productivity calculated using the quality-adjusted labour input series is slightly lower than growth in unadjusted multifactor productivity: 0.9% a year compared to 1.0% over the period 1982-83 to 2002-03.

Links to other dimensions of progress

Productivity is an important source of output growth; it contributes to growth in national income. During a period of productivity growth, it is possible to raise real wages and other incomes without increasing inflationary pressures. Also, industries that experience higher rates of productivity growth than others can enhance their international competitiveness.

Education is important too as it both disseminates existing knowledge among the Australian population and enhances the probability that Australians will generate or adopt new technologies and other innovations.

Knowledge and innovation can contribute to Australia's productivity growth (and hence to improvements in national income and competitiveness) because they enhance the prospects of technological advances and of improvements to management and work practices and other aspects of economic production.

Knowledge and innovation can also result in improved approaches to satisfying the needs of Australians (say, through better health services) and to protecting Australia's environmental resources.

Natural assets (such as soil, minerals, water and timber) are used in production. If Australian industry can use such assets more efficiently, economic growth will, for a given volume of output, require less draw-down of these resources and so have a smaller impact on the environment.

See also the commentaries National income, Inflation, Competitiveness and openness, Education and training, The natural landscape, Health and Work.

Endnotes
1. Data in this segment of the commentary are from Australian Bureau of Statistics 2003, Australian System of National Accounts 2002-03, cat. no. 5204.0, ABS, Canberra.

2. Data in this segment of the commentary are from Australian Bureau of Statistics various issues, Research and Experimental Development, All Sector Summary,
cat. no. 8112.0, ABS, Canberra.


3. Organisation for Economic Cooperation and Development 2000, A New Economy? The Changing Role of Innovation and Information Technology in Growth, OECD, 2000.

4. Data in this segment of the commentary are from Australian Bureau of Statistics various issues, Labour Force, Australia, cat. no. 6202.0, ABS, Canberra.

5. Australian Bureau of Statistics 1999 and 2003, Business Use of Information Technology, cat. no. 8129.0, ABS, Canberra.

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