Gains from reform

Some economists have claimed that the latest national accounts, released recently, show that Australia's productivity miracle is over and that the gains from microeconomic reforms during the 1980s and 1990s have been greatly overstated.

Nothing could be further from the truth. Productivity growth has accounted for four-fifths of the growth in Australia's average income during the past four decades.

There should be as much clarity as possible about productivity trends and what has contributed to them.

Yet confusion reigns, with some commentators even questioning whether there has been any rise in Australia's productivity growth since the 1990s. Discussion of Australia's productivity performance has been marked by the confounding of issues, misinterpreted data and failures to distinguish fact from judgment.

Some commentators have used approaches that mask meaningful changes in productivity trends. They observe trends over a very long period or include a short-term downward blip, with the result that the 1990s highs are obscured. The place to go for the facts is the Australian Bureau of Statistics, which publishes the official productivity estimates.

The underlying level of productivity in an economy changes slowly. The ABS carefully identifies periods (productivity cycles) over which it can estimate productivity trends. It was only this year that the ABS identified the end of the cycle that started in 1998-99, concluding that it had peaked in 2003-04.

The ABS estimates reveal that, during the productivity cycle between 1993-94 and 1998-99, Australia's annual rate of productivity growth was about half a percentage point above any other rate recorded and was nearly one percentage point above the long-term average. Clearly that was a dramatic rise.

A second issue is whether the higher productivity growth has disappeared. The ABS estimates put the average rate of growth between the productivity peaks in 1998-99 and 2003-04 at just below the average for the past four decades. This indeed indicates that growth is down from the 1990s highs.

But some further digging into the data provides grounds to believe that the momentum in productivity growth did not disappear entirely. The key point is that there were some once-only factors at work - the Olympics, the GST, concerns about the Y2K bug - that dragged down the average for the cycle. While not a never-to-be-repeated factor, drought also reduced the average.

Australia's underlying productivity growth in the 2000s has come off the exceptional highs of the 1990s. However, if the effects of the once-off factors (if not drought) are discounted, average productivity growth during the latest cycle would still have been above the long-term average.

The third issue is whether microeconomic policy reforms have had any substantial influence on observed productivity trends. In the midst of firmly entrenched views, it is necessary to look to empirical analysis to get some clarity.

Some sceptical views are not empirically supported. For example, the view that higher productivity growth is due to increased work intensity - that we are working longer hours and at an increased pace - and has had nothing to do with policy reforms, has not been empirically supported. In fact, available evidence tends to discount the work-intensity proposition.

Empirical studies by Australian economists identify three factors that have had some immediate or direct influence on Australia's productivity improvement: increased exposure to foreign trade and investment (bringing with it stronger competition from imports and transfer of technologies and know-how); increased research and development activity; and innovations based on the use of new information and communications technologies. Policy reforms would not account for all the changes in these factors. But it is not hard to see that reductions in trade and investment barriers, freeing up capital and labour markets and increasing the incentives to innovate would have contributed to more trade and investment, research and development and IT-based innovation.

The international evidence also points to the importance of policy reforms. The Organisation for Economic Co-operation and Development and others have studied why some countries, including Australia, performed better than others in the 1990s. They found those countries with relatively low restrictions on market competition and on labour-market flexibility fared better. This is hardly surprising. After all, for example, they were better able to implement new organisational and work arrangements to take advantage of the potential that IT-based innovation offered.