Productivity Measurement and Enhancement, the Only Way to Sustain Economic Growth
Article by Benjamin Sombi
Let’s face it, the most important determinant of the standard of living of a group of people, a nation or a planet is productivity. Productivity is a measure of the efficiency with which a company or country combines capital and labour to produce more with the same level of factor inputs. In this article, we will focus on labour productivity and how that guarantee sustainable economic growth. Labour productivity is something all business leaders need to focus on.
Sustained long-term economic growth comes from how efficient is a nation with its time and workers. Labour productivity is the value that each employed person creates per unit of his or her input. High productivity means that each worker can do more in the same amount of time. Imagine a Zimbabwean worker who can make 10 loaves of bread in an hour versus a Malawian worker who in the same hour can make only two loaves of bread. In this fictional example, the Zimbabwean workers are more productive.
The great gains in standard of living have come from higher output per hour. Determining the standard of living of a society begins with labour productivity, but it also includes how many workers there are relative to the entire population. As of 2018, about 60 percent of all people are of working age (16 through 64) in the whole world. China has only 71 percent of its population in the working-age category, but Zimbabwe has 55 percent and South Africa 66 percent. There’s not too much to be done about the age distribution of population aside from encouraging working-age immigrants. However, it takes a lot of immigrants to outweigh a country’s own population trends, and some countries are not interested in integrating immigrants into their society, for example, South Africa.
One may be wondering, how then productivity can enable sustainable economic growth? Well, there is a number of ways in which high productivity can lead to sustainable growth. If organisations are producing more with fewer resources, it means that they will experience lower unit costs. These cost savings might be passed onto consumers at lower prices, encouraging higher demand, more output and an increase in employment.
When firms are able to produce goods at a low cost, it means that they will be able to compete on a global market. Research has shown that productivity growth and lower unit costs are key determinants of the competitiveness of firms in global markets.
Efficient organisations are able to gain large profits. By obtaining huge profits it means the organisation will be able to re-invest the excess capital to support the long term growth of the business. Long term growth translates to more employment opportunities for citizens and better economic growth.
High profits from low unit costs means that companies will be able to afford high salaries. In simple terms, when workers are efficient, the business can afford high salaries. This is generally true over long time periods. With higher productivity and the same old salary rate, companies try to hire more workers. The increased demand for labour bids up the salary rate, and the gains from higher productivity flow through to the workers. This does not at all depend on the generosity of companies; it’s simply how competitive markets work.
When workers are being paid high salaries, it means they will be able to improve their standard of living. A better standard of living means a better economy.
If the size of the economy is bigger, higher salaries will boost consumption, generate more tax revenue to pay for public goods and perhaps give freedom for tax cuts on people and businesses.
China is one of the best examples of economies that have improved through high productivity. China first identified low productivity industries such as Agriculture and moved its resources to high productivity areas such as manufacturing and construction. Over half of the Chinese population now lives in urban areas.
Although productivity and economic improvements of countries such as China and Singapore are very impressive, the process of catch-up with advanced nations still has a long way to go. China's labour productivity is about 12 percent of that of the USA.
What really determines how productive workers are? The first one is Human Capital. According to Labour productivity and Economic Growth book by Rice University, Human capital is the accumulated knowledge (from education and experience), skills, and expertise that the average worker in an economy possesses. Typically the higher the average level of education in an economy, the higher the accumulated human capital and the higher the labour productivity.
The second determinant is technological change. Technological change is a combination of invention, advances in knowledge and innovation, which is putting that advance to use in a new product or service.
As explained in the Labour Productivity and Economic Growth by Rice University, the third factor that determines labour productivity is economies of scale. Economies of scale are the cost advantages that industries obtain due to size. For example in the case of the fictional Zimbabwean worker who could produce 10 loaves of bread in an hour. If this difference in productivity was due only to economies of scale, it could be that Zimbabwean workers had access to a large industrial-size oven while the Malawian worker was using a standard residential size oven.
Many external factors affect labour productivity. Factors such as the national economy, a recession, inflation, competition, etc. can affect organisational productivity. Although you can’t control everything, you can control and measure employee performance. Total output divided by total inputs gives us productivity. For example, let’s say your IPC generated $80,000 worth of goods or services (output) utilizing 15 labour hours (input). To calculate IPC’s labour productivity, we can divide 80,000 by 15, which equals 53. This means that your company generates $5,333 per hour of work.
Outputs generally change based on the industry when one is calculating productivity using the labour productivity method. So you have to be careful which industry are you measuring.
For industries that base on sales, one should measure a variety of additional outputs, like the number of new accounts opened, the number of calls made, and the volume of sales in dollars.
For companies that are in the service industry, productivity measurement is one of the hardest things to calculate because of the intangible outputs involved. You could measure the number of tasks performed or the number of customers served.
For the manufacturing firms, one may want to use output per worker-hour required to produce a single product. In other words, one would want to calculate the product cost of one unit.
In summary, organisations should invest in productivity measurement and enhancement. This to a large extent contribute to economic growth.
Benjamin Sombi is a Data Scientist, Entrepreneur, & Business Analytics Manager at Industrial Psychology Consultants (Pvt) Ltd a management and human resources consulting firm.