Missing the point on productivity

I hate the “goal” of productivity growth personally. I think any policy goals we have should be based on equity and allocative efficiency, not trying to make arbitrary ratios look pretty.

However, I also disagree with Idiot/Savant’s description of productivity and how he feels that a productivity target is anti-worker (h.t. CPW).

Lets take the choice quote from the piece:

From the mathematics of the thing, it should be clear that there are two ways to increase productivity: you can increase output, or lower inputs. The first can be done by investing in a better widget-maker, or teaching people how to make them better, or coming up with new widgets which you can sell for more money – in other words, it needs investment by business in plant, training, or R&D. New Zealand’s business “leaders” are fundamentally averse to that – investment requires money which they could instead take as profits – and so they have instead chosen to do it the other way: by lowering wages

Now to be clear I believe he is specifically talking about labour productivity. I agree that this is an even dumber goal than general productivity, but his description of it here is still a bit unfair.

Labour productivity tells us about REAL output per REAL input. In this case it can be taken as something like REAL GDP per hour worked. There are two ways to increase this ratio, increase output without working (proportionally) more or reduce hours worked with (proportionally) decreasing output. For simplicity we could do this by making more without working anymore or making the same amount while working less!

This could occur through investment etc sure. But here I/S says NZ firms haven’t been investing in plant and machinery. I don’t really agree with this, given that the statistics say NZ has been investing:


Real P&M investment as a % of real GDP. From Stats NZ.

So this dig at private investment is a bit rough. Still it isn’t central to I/S’s argument on productivity – it appears to be just an arbitrary dig at big business 😛 .

I/S then makes the weird claim that National wants to decrease wages to increase labour productivity. This is wrong. Why? Well productivity is about the ratio of real output to real inputs. If we drop wages and output and input randomly remained unchanged (as a starting point) productivity is UNCHANGED. Here I/S seems to have confused nominal inputs (which is the effective hour worked times the nominal wage) with real inputs (which is just the effective hour worked).

Furthermore, we can go a step further. If wages are magically lower firms will want to hire more workers (demand for labour is downward sloping in the price (wages)!). As the additional output from an extra worker is lower than from previous workers (this is called diminishing marginal returns) mystically lower wages would LOWER productivity not increase it.

We can even crawl along even further by realising that firms hire workers based on the returns they will get. At the margin they will hire a worker that provides as much as they are paid. As a result, the lower labour productivity is the lower real wages will be. In this sense we could argue that if the government does want to increase labour productivity it actually WANT TO INCREASE REAL WAGES!!!

As a result, I/S’s attack on a productivity target does not make sense and the anti-business claims made by I/S appear to be the result of ideological speculation rather than any evidence.

I share I/S’s irritation with the idea of “productivity targeting”, but I do not share the reasoning.

3 replies
  1. ben
    ben says:

    I’m nervous about it for a related reason, which is that productivity increases can be produced by bad labour market regulation. France regulates the hell out of labour and has high unemployment. They also have high productivity – it is simply uneconomic to hire less productive workers and they don’t get included in the prductivity ratio!

    I’m no expert on, well, anything it seems, but my guess is that the very best thing a NZ government could for productivity would be to set the conditions that encourages capital inflow into NZ. Those things might be to somehow commit to not expropriating such investment such as by enshrining property rights, perhaps opening the doors to immigration to exploit what looks to me benefits from economies of scale, and to leave the production of private goods to the private sector. Paul Walker has pointed out the weak relationship between flavours of capitalism and performance, but at the margin privately-owned firms do more with any given bundle of resources – so get government out of there.

    Unfortunately, virtually nobody in this great country thinks these ideas have any merit whatsoever, which is why I confidently predict NZ will not be be able to close the gap with Australia or anyone else: we will continue to have half the real income of Americans. Why isn’t that gaping chasm front and center?

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