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Productivity in Relation to Economics

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Last updated date: 09th Apr 2024
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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


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 in Relation to Economics

1. Productivity growth is not production growth. Explain. 

Productivity is often confused with production. Productivity is a measure of how efficient a production process is, regardless of independent quality or quantity of output or independent quality or Input amount in this production process. It is a relative concept that can only be determined if performance per unit is evaluated and derived from per unit input amount in a production process.


So, achieving productivity gains is not the same as working longer (e.g., longer working hours) because this leads to an increase in input. It also does not necessarily correlate with higher volume output as input may increase at the same or faster rate.

2. What is the difference between labour productivity and multifactor productivity? 

Labour productivity is only a partial measure, as it does not consider the contributions of other factors of production. Therefore, labour productivity changes need to be interpreted with caution, as they may reflect factors beyond workers' control (such as improvements in capital employment). The MFP measures economic output growth in addition to measured capital and labour input growth and thus provides a better indicator of overall improvement in an economy's efficiency.


In other words, the MFP provides information on whether GDP growth is due to productivity growth or increased labour and capital input. It thus captures the impact of improvements in production-related factors such as skills, technology, and management practices that are not included in formal capital and labour measures.

3. Why is labour productivity important?

Labour productivity is important because of the following reasons: 

  • First, it fosters economic growth. A highly productive economy means it can produce more goods and services with the same amount of resources and also produce the same level of goods and services with fewer resources. 

  • Second, labour productivity affects everyone. For businesses, increased productivity means more profits and more investment opportunities. For workers, increased productivity can lead to higher wages and better working conditions. 

  • In the long run, increased productivity is key to job creation. For states, increased productivity translates into increased tax revenue.