And, since the Reserve Bank is required to keep inflation, on average, within a target range of 2-3 per cent, the NAIRU is an important trigger for changes in interest rates. It is the operational equivalent of full employment.

The increase in the NAIRU therefore represents deterioration in Australia's potential economic output, which is defined as the level of output consistent with stable inflation.

A higher NAIRU is not just bad news for the unemployed. It is bad news for the whole economy. It means the economic recovery is likely to be stunted because the economy will enter the zone in which wage inflation starts accelerating sooner.

Now, a warning: estimates of the NAIRU are very imprecise. We can't be confident that it is exactly 5.7 per cent, any more than we could be confident that it was 4.8 per cent in 2007.

But we can be more confident that it has risen he best part of 1 percentage point, not least because the rate of long-term unemployment has risen and productivity growth has slowed throughout the economy.

But there is good news. There is nothing natural about the NAIRU despite its non-technical name. What goes up also can come down, and has done so in the past.

However, increasing economic growth and cutting the unemployment rate back to 5 per cent is likely to require more than just a cyclical recovery by the economy.


There will have to be structural reform by the federal and state governments – and not just of workplace relations.

Anything that increases productivity growth will help. The impact of accelerating wages on labour costs and inflation can be offset by accelerating labour productivity growth.

Labour productivity is increased by investment that lifts the stock of physical capital per worker, so that we get more output when our workers press the start button every morning.

But labour productivity growth also is driven by technology improvements, which often come embodied in new plant and equipment but also include a much broader range of innovations.

This is what the economists call "total factor productivity" and it measures the efficiency with which we combine our labour, capital and natural resources. It is the key to rising living standards in the longer term.

The IMF economists have identified the main sources of past improvements in Australian total factor productivity growth.

These included reform of product markets, cuts in taxes on labour, an expansion of the knowledge-based economy and investment in infrastructure.

The biggest "knowledge economy" impacts came from investment in information and communication technology (the IT revolution), the increase in the proportion of skilled workers, and spending on research and development.


That list basically covers all the reforms now on the table, plus a few more: the tax reforms and the competition policy reforms under discussion between the federal and state governments, the workplace relations reforms proposed by the Productivity Commission, as well as the reform of education, childcare and welfare.

Maybe we can't quite get the economy back onto an old growth path.

For the past 24 years, Australia's growth has been a full percentage point above the OECD average. Income growth has been even stronger, thanks to the boom in export prices.

We can't raise world commodity prices and, as the IMF economists say, the low-hanging fruit among the productivity boosting reforms are behind us.

But, as they show, even relatively modest gains in productivity growth could still make an important difference.

For example, if during the next 10 to 15 years we close half the productivity gap that has opened between the United States and Australia since 1995, we would boost our economy's growth 20 per cent. Total factor productivity growth would increase 50 per cent.

We also would raise income growth to almost its 2 per cent long-run average without any improvement in the terms of trade.

For a lot of workers and business owners, and even for the odd prime minister and premier, that could be a life-changing difference.