Australia and much of the developed world has a problem.
Since the mid-2000s, productivity growth has been significantly slower than in preceding decades.
Clearly, this problem has been bubbling away for a while. But as we recover from the COVID-19 pandemic, improving productivity with greater urgency is even more important.
As Paul Krugman famously said: “Productivity isn’t everything, but in the long-run it is almost everything.”
Productivity sometimes seems like one of those buzzwords that economists keep repeating over and over again.
Put simply, it measures how efficiently an economy can turn inputs, namely labour and capital, into outputs, like products and services.
Labour productivity rises when workers produce more outputs for each hour of work or the same outputs with fewer hours of work.
Higher labour productivity doesn’t come from simply working more hours. It comes from more efficiently utilising our resources, making better use of technological innovations, and educating the workforce to produce more and better outputs during the hours worked.
In short, increasing worker productivity is by far the most important factor to reducing poverty and growing living standards over time in Australia.
Businesses benefit through higher profits and workers are rewarded with increases in income. In fact, over the past 30 years, higher labour productivity has been responsible for over 80 per cent of the growth in real income per person.
Turning productivity growth around is vitally important if our living standards are to continue growing at rates seen in previous decades.
As the political saying goes, “never waste a good crisis”.
And now is arguably the best time to implement reforms which previously may have been considered too difficult.
So, what can be done to increase productivity growth?
The taxation of land
Efficient use of scarce resources such as land is key to reducing the costs of production.
Inefficient taxes discourage activity and impact productivity. The worst offender is arguably stamp duty on property.
In fact, a recent NSW Treasury review found that stamp duties reduce economic welfare by around 50c to 60c for every dollar raised. They create significant headwinds to buying and selling property. This results in workers and businesses being less likely to take up opportunities in other locations.
Transitioning from inefficient stamp duties to broad-based land taxes levied on the unimproved land value would provide significant benefits to the economy.
The federal Treasury’s 2015 Re:think tax discussion paper found that broad-based land taxes actually increase economic welfare, not decrease it as other taxes do. This is because some land is owned by foreigners, who pay land tax which is then used to fund services for Australians.
Land taxes are economically efficient; they encourage landowners to put their land to its most profitable use, whether that be for housing, factories, office space, farmland, or other uses. Being levied on landowners, who are generally wealthier than those who don’t own land, they can also act as a de-facto wealth tax and promote economic redistribution.
It is encouraging to see progress towards this goal.
The ACT is around half-way through its plan to transition to land taxes. The NSW government also announced a plan in 2020 to transition to the more efficient tax. These moves are very encouraging and hopefully other states follow suit soon.
The use of land
Inefficient planning restrictions can reduce the productive use of land.
Planning and zoning restrictions often limit the density allowed in inner ring suburbs and restrict the supply of housing and other construction. This can raise house prices and drive people further out to the fringes of our cities, placing increased demands on infrastructure.
Reform to planning processes and zoning restrictions would facilitate more efficient use of land, placing downward pressure on land and house prices. Ultimately, this would reduce costs for individuals and businesses.
Leverage technological innovations from COVID-19 pandemic
The pandemic has accelerated many emerging trends.
This includes the digital provision of goods and services and working from home arrangements. The pace of technological adoption has increased rapidly to cope with the changes. Businesses have needed to adapt to serving customers that are often no longer physically there and collaboration and engagement within firms and with customers has changed.
The use of technology has increased to deal with these changes.
This can have a positive impact on productivity as businesses use technology to improve products and services and reduce costs. The pandemic has also led to firms that are able to best adapt to these challenges attracting additional investment and high-quality staff.
Invest in productivity-enhancing infrastructure
An effective way for governments to stimulate economic growth during downturns is to increase investment in infrastructure.
Well targeted infrastructure investments can also drive productivity growth. In response to the COVID-19 pandemic, the federal and state and territory governments have increased their plans for infrastructure spending.
This is a positive development.
However, to ensure public funds are used effectively and investments provide the greatest gain to productivity growth, governance frameworks around infrastructure investment should be improved.
This includes conducting rigorous cost-benefit analysis, considering alternative proposals, and undertaking engagement with the community. This will ensure that the investments chosen will provide enough benefits to productivity and economic growth to justify their costs.
These ideas are only the tip of the iceberg when thinking about what can be done to improve productivity growth.
Unfortunately, productivity enhancing reform is not easy to implement and progress is likely to remain slow. It will take concerted determination from governments, businesses, and workers alike to drive productivity growth back to what has been seen in previous decades.
But as history has shown, the rewards are well worth the effort.
Read our recent productivity report .
The views expressed are those of the author and do not necessarily reflect those of the Westpac Group.
The information in this article is general information only, it does not constitute any recommendation or advice; it has been prepared without taking into account your personal objectives, financial situation or needs and you should consider its appropriateness with regard to these factors before acting on it. Any taxation position described is a general statement and should only be used as a guide. It does not constitute tax advice and is based on current tax laws and our interpretation. Your individual situation may differ and you should seek independent professional tax advice. You should also consider obtaining personalised advice from a professional financial adviser before making any financial decisions in relation to the matters discussed.
By Michael Bennet
Editor, Westpac Wire