Mining makes us 6th richest

THE resources boom has given Australia the sixth highest GDP per head in the Western world but most of that comes from temporary causes that will reverse, making high productivity growth imperative for our future, a new report warns.

Global consultants McKinsey points to the resources industry as the main culprit for Australia's poor productivity growth in recent years, saying it is wasting capital by overambitious planning and poor project control.

In a new perspective on Australia's productivity debate, a McKinsey report shifts the spotlight from labour productivity to capital productivity. It says the efficiency with which we use capital has fallen in recent years, putting a brake on growth at a time when mining investment has dominated the economy.

"Capital productivity in mining is the major issue", McKinsey partner Chris Bradley told The Age. "Australia's productivity challenge is to do the major projects better. We're not even halfway through this resources boom. The amount of investment ahead is bigger that what we've seen so far. We have the opportunity now to leverage the experience we've gained in this area to make the second half much better.

"Prices are not going to stay high, in all likelihood, and we're not the only resources player."

The report, Beyond the boom: Australia's productivity imperative, was written by a team headed by McKinsey senior public sector partner in Sydney, Charlie Taylor. It says Australia is one of the "fortunate few" rich countries with good income growth but its causes are transient, and productivity growth must drive the economy in future. The report estimates that most of Australia's income growth between 2005 and 2011 came from one-off factors: mostly rising export prices (the terms of trade) and the boom in capital inputs (mining investment).

While most of the fall in capital productivity had sound reasons the long gestation period of new mines, and miners digging up lower-value seams while prices are high it says capital productivity in new mines could be improved 30 per cent by better timing of projects, using simpler solutions, and making the design fit the budget rather than vice versa.

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Productivity: we're winning half the battle

"Productivity isn't everything, but in the long run, it's almost everything. A country's ability to improve its standard of living over time depends almost entirely on its ability to raise its output per worker."

US economist and columnist Paul Krugman (1994).

WE HEAR a lot about productivity now, and with good reason. Productivity is what makes Australia a rich nation and India a poor one. But since 2003-04, the statistics say that Australia's productivity has been falling.

Why do office workers and carpenters, teachers and taxi drivers, earn so much more in Australia than they do in India? Because the productivity of the Australian economy is so much higher than that of India.

What is productivity? In a word, efficiency. A recent Reserve Bank paper defines it as "the efficiency with which an economy employs resources to produce economic output". Or, as economist Saul Eslake puts it: "Productivity is what a workplace, a business . . . or a nation gets by way of goods and services for what it puts in, in terms of labour, capital and other factors of production."

When 75 per cent of us are employed in services, how are we more productive than services workers in India? Well, start with the computers at our desks. They have relatively fast broadband and good software that allows us to do jobs quickly (so long as we don't start surfing the net). We are skilled in using them and thinking laterally when we run into problems.

Second, our workplaces are run so that we work at full stretch, whereas Indian shops usually have more workers than customers.

Technology levels, skill levels and work intensity: these are the factors that University of Queensland economist John Quiggin singles out as the keys to productivity growth. They're not the only ones: Eslake highlights the role of economic reforms in lifting productivity growth. The switch to workplace bargaining in the 1990s is widely seen as having opened the way for productivity-enhancing trade-offs.

The quality of infrastructure matters, too. One argument for the NBN is that high-speed internet connections will raise productivity by allowing us to do more tasks more quickly. Ridding Melbourne of the congestion caused by level crossings would raise productivity by cutting delivery and transport times.

Policymakers are focused on productivity because, after a decade of rapid growth in the 1990s, the statistics say productivity in Australia peaked in 2003-04 and since then it has gone gently into reverse.

Labour productivity the amount we produce per hour worked has kept rising, but at a far slower pace. And capital productivity the amount we produce per dollar invested has gone from shrinking slowly to shrinking fast.

Should we be worried? And if not, why not?

Many analysts have shed light on Australia's productivity puzzle. There are differences of emphasis between the conclusions of policy insiders (the Productivity Commission, Treasury and the Reserve Bank) and those of independent economists such as Eslake and Quiggin. But there is a broad consensus that, to coin a phrase, the glass is half-full (or half-empty). Part of the productivity slowdown is a mirage, but part of it is real.

The mirage stems from what Productivity Commission consultant Dean Parham calls "the usual suspects": events (or errors) that lower official measures of productivity, but don't change underlying productivity. They include the timing of investments, temporary issues such as drought, shifts between industries, and measurement errors, such as ignoring the improved quality of the goods and services we produce.

The first is the big one. In a decade, the mining construction boom has trebled the industry's workforce and doubled its capital stock. Yet so far it has created only a 30 per cent growth in output so productivity in mining has slumped by 40 per cent.

But most of that is just a timing issue. The projects employing those workers and capital are creating long-term assets that will deliver huge increases in future mining output and productivity.

Productivity in the electricity industry has slumped for similar reasons. There's a huge wave of investment under way in transmission and distribution lines, with no increase in output. Electricity, water and mining account for roughly half of the productivity slump.

But what of the other half? There are many opinions, but few unarguable facts.

Eslake blames the lack of big economic reforms since the GST came in. Reserve Bank board member John Edwards takes a more benign view, pointing out that the '00s, like the '80s, saw a lot of growth in employment, largely in low-productivity industries. "Higher participation," he argues, "is not something we should complain about."

I lean towards Edwards' view, but there is truth in both explanations. And for business pressured by the higher dollar, raising productivity is not an option, it's a necessity.

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Productivity. Poor answers from the Commission

LIFT productivity, or die. Stop whingeing about the high dollar, falling asset values, sluggish demand. Instead, adapt to it, by raising productivity.

That was half of Glenn Stevens' message to this week's economic forum in Brisbane. (The other half was to tell us again that we are doing better than we think.) And the Reserve Bank governor hit a theme with many friends.

The government says productivity growth is one of its key priorities. Its forum focused largely on key areas for raising productivity: innovation, infrastructure, skills, and deregulation.

The Business Council and others are focusing their advocacy on their priority areas for lifting productivity.

And while productivity is not the only source of growth, or of competitiveness, it is clearly a crucial one.

The data shows Australia losing traction. In the "jobless recovery" of the 1990s, productivity grew rapidly. Then, in the benign 00s, job growth accelerated, but productivity growth slowed. If you believe the national accounts, in the four years to March 2011, GDP per hour worked grew just 0.1 per cent. (And then in the year since, productivity shot up 4 per cent, but hours worked rose just 0.4 per cent.)

Few economists believe all this. Stevens thinks part of the slowdown stems from timing issues rising from the mining boom, part reflects "a material slowing in productivity growth", and part is just inexplicable. Merrill Lynch chief economist Saul Eslake sees the slowdown largely as a product of the good years.

Companies themselves have the most ability to lift productivity. What government can do is to remove barriers to firms working at their full potential.

The Keating government's dismantling of centralised wage fixing in favour of enterprise bargaining was a classic example.

But policy debates focus on what governments can do. And while some options are obvious governments can lift productivity by rolling out high-speed broadband, or removing level crossings on busy roads making a priority list of reforms is a lot more subjective. Stevens flick-passed it to the Productivity Commission, saying it had published a list of reform proposals. Governments, he said, should "go get the list, and do them".

Sorry, governor, but the commission's last reform wish list was published in 1996. Its chairman, Gary Banks, has named some fields ripe for reform in recent speeches "labour market policies . . . the taxation system . . . business start-ups, development approvals and land-use changes . . . red tape" but Banks has survived 14 years as chairman by speaking fluent nuance, rather than unnerve governments with his own reform agendas.

The OECD, far away in Paris, has no such inhibitions. Every year it publishes a list of reform priorities for its members. For Australia, its 2011 list was:

Infrastructure: build more, but choose it more carefully. Project selection should follow "rigorous and published cost-benefit analysis".

Foreign investment: remove screening for investments under $1 billion, and be more transparent about why decisions are reached.

Tax reform: Cut income tax rates, cut corporate tax rates, and raise the GST. Reform state taxes on housing.

Participation: Encourage workforce participation by lifting the threshold for income tax (as the Labor government has since done) and reduce effective marginal tax rates.

Childcare: Lift benefits for children under school age, but limit them to parents who are employed or searching for work.

But the benefits of these may be long-term. And for many companies, the crisis is now.

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Productivity: Easy to say, hard to do

Stop complaining about the economy, start adapting to it - and adapt to it by raising productivity.

That's the gist of Glenn Stevens' ideas for Australia, and it's pretty much the same message that Julia Gillard and Wayne Swan are delivering to the Government's economic forum.

Last week Stevens declared that Australia's glass is "more than half full", contrasted its growth with the stagnation of Europe, Japan and the US, and suggested that much of Australia's glum economic mood was due not to the high dollar and the mining boom that caused it, but to the end of the extraordinary rise in wealth delivered by three decades of debt - and particularly, the decade to 1995.

Today he repeated all that, with a further twist: arguing that the high dollar was really not all that high if you look at it in a very long term perspective.

In real terms, the Governor said, the dollar is now back to where it was 100 years ago, relative to the US dollar. In nominal dollars, it's even better: 100 years ago, ten shillings (the equivalent of our dollar today) would buy you $US2.40.

Even in Stevens' own lifetime, he recalled, the dollar had been $US1.40 before the high inflation of the Whitlam and Fraser era.

Well, true. But then, as Keynes said: "In the long run we are all dead".

That distant past is irrelevant to the problems we face now. And to the extent that the Governor conceded that the high dollar is damaging large swathes of the Australian economy, his advice was simply: adapt. Learn to cope with it, by making your business more productive.

How? he was asked. He waved it on to the Productivity Commission, whose chairman, Gary Banks was in the audience. The commissioned has published a long list of proposed reforms, Stevens said. His advice to governments was: "Go get the list, and do them".

"They're not popular. They're politically very difficult", he conceded, pointing to reform of Federal/State relationships as an example. "They're very hard to do, and it's grinding work." But that was his only suggestion.

A Reserve Bank governor has to be careful in what he says. Anyone else might add that politically, reform agendas become virtually impossible when politics becomes as polarised as it is now.

Many of the problems facing the Australian economy - highlighted in the past two days by surveys showing business confidence at a three-year low, and consumer confidence showing virtually no gain from the recent interest rate cuts and budget handouts to households - are worsened by us living in an environment of constant negativity and attacks on whatever course the government decides on.

Tony Abbott's war against everything has made good government in Australia very difficult, and courageous reforms almost impossible. Labor's main contribution has been the carbon tax, and Abbott has taken a blood vow to undo that reform. Whatever it proposes, he opposes.

Look at the United States, and India, where partisan politics has ruled out any serious attempt to reform even the most obvious problems. Australia is now in that state.

Australia would not have been able to achieve the reforms it did in the 80s and early 90s if John Howard, Andrew Peacock and John Hewson had adopted Abbott's take no prisoners approach to the job of Opposition Leader.

They did oppose a lot of things that Liberals now accept - compulsory superannuation, Medicare, indigenous land rights, to name a few - but they waved many of Labor's reforms through. Had they not done so, we wouldn't have had the benefits those reforms have brought since. A war against everything ends up becoming a war against us.

But Labor is also playing partisan games where it ought to be trying to create a bipartisan agenda.

Last night behind closed doors, Swan flatly rejected a call by Victorian Premier Ted Baillieu for a Productivity Commission inquiry into Australia's construction costs. That was a serious step backwards, after Gillard had appeared supportive of the proposal when Baillieu raised it earlier this year at the Council of Australian Governments summit.

The issue is of huge importance to raising productivity. One of the main ways of raising productivity is to invest in better infrastructure - that's exactly why we're building the NBN - and Australia has an estimated backlog of $700 billion of infrastructure projects which could raise productivity significantly if they were built.

But they can't be built because construction costs are so high. Victoria is looking at a $100 million bills on average to replace each of Melbourne's 175 level crossings. Asian cities are racing ahead of us in this area.

Baillieu is the only Liberal premier to accept his invitation to the forum. His proposal was a sensible, modest first step to trying to bring down construction costs.

At worst, it could do no harm. At best, it could do a lot of good. But Labor depends financially on donations by the construction unions, who do not want the Productivity Commission investigating their turf. So no inquiry - and none of the productivity gains that might have resulted from it.

Productivity remains a word that easy to say, hard to do.

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