Best of the Week

Productivity growth still missing in action

Former Reserve Bank economist Michael Reddell looks through the latest GDP figures and finds another worsening of our productivity deficit with Australia.

It was Paul Krugman, winner of the economics pseudo-Nobel Prize who famously captured one of the fairly basic insights of economics. When it comes to material living standards in the medium to longer-term, if productivity isn’t everything, it is almost everything.

The terms of trade bob around, but probably won’t do much (harm or good) over the longer term, as they haven’t in New Zealand over 100 years. But productivity growth – managing to produce more per unit of inputs – is the basis for improved material living standards. The best timely and accessible measure of productivity, widely used in international comparisons, is real GDP per hour worked.

Productivity growth in New Zealand has been pretty lousy for many decades, really since around the end of World War Two. We’ve had the odd decent run, but over the decades we’ve had one of the lowest rates of productivity growth of any advanced country. We’ve slipped down the OECD league tables, and now part of the way we maintain reasonable living standards is by putting many more hours, over a lifetime, than the typical person in an advanced country.

Across the advanced world, productivity growth seems to have slowed from around 2005 (before the financial crisis). We didn’t need to share in that slowdown, because productivity levels in New Zealand were so far below those of the OECD leaders. Countries like the Netherlands, France, and Germany – which historically we were richer and more productive than – now have labour productivity levels around 60 per cent higher than those of New Zealand. We should have been able to close some of the gap in the last decade or so, utilising existing technologies, even if advances at the technological and managerial frontiers were slowing.

Various other poorer OECD countries – notably the former Soviet bloc countries that are now part of the OECD – have done so. We haven’t. Several weeks ago the Prime Minister and the Minister of Finance were repeatedly claiming that New Zealand’s productivity performance in recent years had really been pretty good. In fact, they suggested that under their watch we’d managed faster productivity growth than in other advanced economies and that the gaps were beginning to close. I went to some lengths to unpick those claims.

New Zealand doesn’t have an official measure of real GDP per hour worked (unlike Australia, where the ABS routinely reports numbers as part of their national accounts release). Instead, we have two measures of real GDP (expenditure and production), and two measures of hours (HLFS and QES). Instead of just picking on one combination, I calculated all the possible methods, and looked at them individually and on average (nine in total).

For broad-ranging international comparisons, it often makes sense to use annual data, because not all countries have easily accessible quarterly data. Unfortunately, the annual data are often only available with a lag, and the OECD doesn’t yet have annual data on real GDP per hour worked for all countries for calendar 2016. But in the years from 2008 to 2015, on not one of the possible New Zealand productivity measures did New Zealand quite manage productivity growth as fast as that of the median OECD country.

Last week just before the election, Statistics New Zealand released the latest quarterly national accounts, which enabled me to update the various quarterly productivity series. In this chart I’ve shown the average of the various possible measures, and compared the performance of New Zealand relative to that of Australia (using the official Australian data). I’ve started the chart in the last quarter of 2007, just before the 2008/09 recession began.

Over the first few years, through the recession period and in the year or two beyond, productivity growth in New Zealand and Australia was modest, but we more or less kept pace. But what is striking is how increasingly large and persistent the deviation has been since around the start of 2012. Over the five years, we’ve had no productivity growth at all, and Australia has managed quite reasonable growth. And over the last five years, using the average measure for New Zealand doesn’t mask anything: from the second quarter of 2012 to the second quarter of 2017, the strongest of the nine series recorded productivity growth of 0.8 per cent (that is, in total over five years) and on the weakest, the level of productivity fell by 0.6 per cent (in total over five years). Best guess: zero.

Recall that at the start of the period the average of level of productivity in Australia was already well above that in New Zealand. That gap has widened still further. In the early days of this government readers will recall that there was a goal to close those gaps to Australia by 2025, only eight years away now. It has been a dismal performance.

Productivity isn’t mostly about how hard people work, but is much more about the ability of firms to find opportunities here that generate high incomes, and in particular high wages. That is very difficult when the real exchange rate is as persistently high as it has been here. Particularly over the last few years, very rapid population growth has underpinned the strength of the real exchange rate, driving up the prices of non-tradables relative to those of tradables.

And what of the comparison I mentioned earlier with the former Soviet-bloc central and eastern European countries (Slovenia and Slovakia, Poland and Hungary, the Czech Republic, and Latvia, Lithuania and Estonia)? Thirty years ago, all of them were in a much worse state than New Zealand, but like New Zealand they had an aspiration to reverse decades of economic underperformance and catch-up with the richer countries in the OECD – in their case, particularly those in western Europe.

But here is how we have done relative to them over the period since 2000, when there is consistent data available for all the countries (and by then all the other countries had got well through the nasty shakeouts immediately after the fall of communism).

It is a steady and substantial decline in our productivity levels relative to those of these central and east European countries. The data are only annual, of course, but as you can see in earlier chart, we’ve had no productivity growth at all recently so not incorporating the last couple of quarters won’t help the picture. Some of these countries – communist-era basket cases 30 years ago – now have levels of productivity very similar to New Zealand’s. Most are on a path that may well take them past us in the next decade or so. Most, as it happens, have little or no population growth. They make the most of their opportunities – which are considerable, being close to western Europe – with their own people.

To sum up, New Zealand has lagged a bit behind the median advanced country since 2007/08, and has had no productivity growth at all for the last five years. We continue to drift further behind our closest neighbour, Australia, and now face the likelihood that before too long we’ll be overtaken by countries that, throughout modern history, were never previously as productive as New Zealand was, and which 30 years ago we’d have looked on as pretty hopeless cases.

We could do much better, but there is absolutely nothing to suggest that we will manage to do so pursuing current economic policies. Sadly, there isn’t much sign that any of the parties competing for your vote on Saturday were offering anything materially different, that might finally begin to reverse almost 70 years of continuing relative decline. The apparent refusal of our leaders to face the reality, and make steps to change, won’t alter the fact of our continuing relative economic decline.