What is Productivity?
Productivity is efficiency in the production process and is usually expressed as the ratio of total output to total input in the production process. At the national level, it measures an economy's ability to "use its material and human resources to generate output and income." The gains from production enable firms to produce more output for the same input, generate higher revenues and ultimately a higher GDP.
Companies can now track productivity to see if they are becoming more efficient with their time and resources or if they need more resources to produce at a certain level.
Productivity
Components of Productivity
Labour Productivity: The most commonly reporte measure of productivity is labour. It is based on the ratio of GDP to total hours worked in the economy. Labour productivity growth stems from increased capital available to each worker, workforce education and experience, and improved technology. Productivity is the most commonly used PFP indicator. It is usually measured as output per hour worked.
Total Factor Productivity: This is the true measure of productivity. It includes all factors in the productivity equation.
Multifactor Productivity: It is designed to consider multiple factors, but not all of them. Estimating multifactor productivity is a complex task. Simply put, it is the construction of three separate indicators of labour, capital, and output.
The Benefits of Productivity Growth
The importance of productivity is discussed below:
At the enterprise level, increased productivity is important because higher wages, returns to shareholders, or funding for investment can help companies stay competitive within their industry.
However, from an economic point of view, the standard of living also matters. The benefits of productivity can be accessed from the fact that with Increased productivity, we can achieve a high standard of living. A country's ability to improve its standard of living over time depends almost entirely on its ability to produce more per worker.
The main reason governments strive to improve the economy is Increased productivity.
One of the benefits of productivity is that economists use productivity growth to model the economy's capacity and determine capacity utilisation. It is used to forecast business cycles and predicts future GDP growth levels.
Productivity vs Standard of Living
Standard of living is the material well-being of the average person in a particular population group, usually measured in the gross domestic product (GDP) per capita. The level of productivity is the most important determinant of a country's standard of living, and the faster productivity increases, the better the standard of living.
The standard of living is related to the country's ability to produce goods and services. As we know, a country's productivity growth rate determines its average income growth rate. Developed countries enjoy a high standard of living because workers are highly productive and can produce large amounts of goods and services per unit of time. The relationship between productivity and living standards has a great impact not only on a country's public policy but also on a company's strategic planning.
Therefore, for a country, increased productivity can improve people's living standards and make the country more harmonious. For the country, higher productivity means higher labour efficiency and, thus, more benefits. In nature, their goals are the same. So, it can be said that a higher standard of living leads to increased productivity.
Case Study
The President's 1983 economic report found that "a greater proportion of domestic production to investment will help restore rapid productivity growth and rising living standards."
Using economic statistics released by governments, how do you measure living standards?
Does a greater share of output for investment necessarily lead to a higher standard of living? Why?
Ans:
Real GDP per capita or real consumption per capita is used to measure living standards.
Countries with high savings and investment rates have higher steady-state capital stocks. Higher steady-state capital stock leads to higher output per capita but may not lead to higher consumption. Depreciation expense increases with capital stock. The higher the steady-state capital stock, the easier a country will have to invest in replacing dwindling capital. If steady-state capital stock growth increases depreciation more than production, the country has less room to consume and, in turn, leads to increased productivity and a higher standard of living.
Summary
Productivity is a simple concept. Productivity is efficiency in the production process and is usually expressed as the ratio of total output to total input in the production process. Labour productivity, multifactor productivity, and total productivity are considered to be their main components. More productive societies and processes produce more output for the same input. Whether viewed from a financial, business, or personal perspective, the ability to measure and track productivity is critical to long-term success, and the main reason governments strive to improve the economy as a whole is to increase productivity.
FAQs on Productivity and Its Relation to Economics
1. What is economic productivity and how does it relate to economics?
In economics, productivity is a measure of economic performance that compares the amount of goods and services produced (output) to the amount of inputs used to create them. It is essentially a measure of efficiency. Its relation to economics is fundamental, as sustained productivity growth is the primary driver of long-term economic growth, leading to higher national income and improved living standards.
2. How is productivity measured in an economy?
Productivity is typically measured as a ratio of output to input. The two most common measures are:
- Labour Productivity: This is the ratio of output (like GDP) to the amount of labour input used (such as total hours worked). It measures output per worker or per hour.
- Multifactor Productivity (MFP) or Total Factor Productivity (TFP): This is a more comprehensive measure. It compares output to a combined measure of both labour and capital inputs, reflecting overall efficiency gains from factors like technology and innovation.
3. What is the key difference between productivity growth and production growth?
Production growth refers to an increase in the total quantity of goods and services produced. For example, working more hours will increase production. In contrast, productivity growth refers to an increase in the efficiency of production—producing more output with the same or fewer inputs. Simply increasing production by adding more inputs does not necessarily mean an economy has become more productive.
4. Can you provide a real-world example of how a company can increase its productivity?
Consider a bakery that produces 1,000 loaves of bread a day with 10 workers. If the bakery invests in a new, more efficient oven (a capital input), and can now produce 1,200 loaves with the same 10 workers, its labour productivity has increased. The output per worker has risen from 100 to 120 loaves per day. This is a clear example of increasing productivity through technology, not just by hiring more people.
5. Why is improving labour productivity considered crucial for a country's economic health?
Improving labour productivity is crucial because it directly fuels sustainable economic progress and enhances the standard of living. When productivity increases:
- Businesses can generate higher profits, which can be reinvested.
- Workers can command higher wages without causing inflation.
- The economy can produce more goods and services for its population.
- The nation becomes more competitive in the global market.
6. Does increasing the number of working hours always lead to higher productivity? Why or why not?
No, increasing working hours does not always lead to higher productivity. While it may increase total production, productivity (output per hour) can actually decrease due to worker fatigue and the law of diminishing marginal returns. After a certain point, each additional hour of labour contributes less to output than the previous hour. True productivity gains come from efficiency improvements, such as better technology or skills, not just working longer.
7. How do technological advancements impact a nation's overall productivity?
Technological advancements are the most significant driver of Multifactor Productivity (MFP). They allow for new production methods, automation, and more efficient use of resources. For instance, the development of the internet and computerisation allowed businesses across all sectors to process information and communicate faster, leading to a massive upward shift in the potential output from the same amount of labour and capital.
8. What is the concept of a production function and how does it relate to productivity?
A production function is an economic concept that mathematically describes the relationship between the quantity of inputs (like labour and capital) and the maximum quantity of output that can be produced. An improvement in productivity, such as from a new technology, causes an upward shift in the entire production function. This means that for any given combination of inputs, a higher level of output is now possible, signifying an increase in the economy's overall efficiency.
9. What is the difference between labour productivity and multifactor productivity (MFP)?
Labour productivity is a partial measure, calculating output per unit of labour input only. It is useful but can be misleading, as a rise in labour productivity might just be due to workers having more or better machines (capital) to work with. Multifactor Productivity (MFP) provides a more complete picture by measuring the growth in output that cannot be explained by the growth in measured inputs like labour and capital. It better captures the impact of improvements in technology, skills, and management practices.
10. Besides technology, what other factors can influence a country's multifactor productivity (MFP)?
While technology is a primary driver, several other factors significantly influence a country's Multifactor Productivity (MFP):
- Human Capital: The education, skills, and health of the workforce. A more skilled workforce can use existing technology more effectively and innovate.
- Infrastructure: Efficient transportation, communication, and energy networks reduce business costs and facilitate economic activity.
- Economic Policies: Government policies that promote competition, free trade, and property rights can incentivise firms to become more efficient.
- Managerial and Organisational Skills: How effectively firms are managed and organised to combine inputs and innovate.
