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Tuesday, 12 May 2009

Beware those bearing gifts of productivity growth

Infometrics article, initially in the Dominion Post on May the 2nd: In a recent report the OECD praised the government’s aim to “increase productivity” in the New Zealand economy. Ever since National came into power,

the catch phrase productivity has been thrown around with reckless abandon – treated as both our saviour in the current crisis and the destitute child that was abandoned by the previous Labour government.

However, all this talk of productivity is a bit ambiguous. If we don’t try to understand the trade-offs that are involved, and whether New Zealand as a society is willing to pay those costs for greater production, the strict focus on productivity alone will lead to bad policy.

Productivity is a surprisingly vague term given its importance in economics. The essence of productivity is as follows: when an industry or an economy is more “productive”, it can make more output with the same amount of input.

This definition indicates that productivity isn’t a goal in itself. The goal of policy should be to support domestic economic activity (efficiency), while ensuring that the other issues that society values (equality, fairness, justice, etc) are taken into account. The purpose of an elected government is to balance the often competing goals on the basis of what it appears society wants.

An extreme example of how the single-minded focus on productivity is dangerous: As a caring social planner, who believes that society only cares about productivity, I walk into each firm across the country and ask who the least productive employee is. Then I shoot them. From there our nation’s productivity increases. I think we would all agree that such a situation is probably not in the social interest, but it would be supported by a single-mined focus on productivity.

The example does not have to be this extreme for the trade-off to make sense. If we are focused on productivity we can achieve this goal by lowering employment, or forcing individuals to save at a higher level than they really wish to. These aren’t satisfactory policy prescriptions, but they can be logically supported by blind support of productivity targets.

When the current government is discussing increasing national productivity there are three ways this could occur through policy:

There is a free lunch: the previous government made some poor policies that didn’t benefit anyone, and by reversing them we can make everyone better off.
They have found a way to make additional output appear out of thin air.
They believe society is willing to accept less active legal and social policies in order to increase economic output.

The first case does not seem to explain the National governments push for productivity, as they aren’t picking up wasteful policies and throwing them away. Although the push to streamline government activities is laudable and the marginal changes to the Resource Management Act may be worthwhile, neither policy will provide any noticeable boost to activity. And more importantly both these changes will cost us something in return.

As the second potential reason is obviously false, this leaves us with only the final point: that the government believes society is willing to accept a little less “redistribution and equality of outcomes” in order to increase the size of the economic pie.

If the government truly believes that society is willing to accept the potential costs associated with lower social spending, different laws, and a smaller government in order to reap the benefits of greater economic activity then why don’t they just say this directly?

I fear that the government is not directly stating this trade-off because they have talked themselves into believing that it does not exist. In such a situation this is likely to lead to some of the costs of policy being unintentionally underweighted or ignored while the drive for productivity is underway.

Labour got themselves into the same tangle with their unfounded belief that increasing equality did not lead to a reduction in economic activity. We now know that much of the growth they watched over happened in spite of their egalitarian program – not because of it.

Both political parties are unwilling to face that, with respect to government policies, there is a fundamental trade-off between some social values (fairness, justice, etc) and the level of productive activity. This trade-off is one of the primary reasons for the existence of government – and yet neither of the political parties seem willing or able to recognise it.

As a result, next time we hear the government discuss the importance of productivity, or we hear some international body talk about the goal of productivity growth, let’s try not to forget that there is a trade-off – and let's ask exactly what this trade-off is.

Please contact Matthew Nolan for further information.
This article published on May 04, 2009..

1 comment:

Steve Baron said...


ZebulonJoe said...

Productivity is best increased by making the unproductive ones into productive, not by removing those who are productive, however low their productivity may be. The real question is this. How does the activity of any person contribute to the wealth (not necessarily in money) of society as a whole? For example, the contribution of a mother looking after her children at home is not valued in money terms in most economic models, but it is of immense value to society as a whole.

Tuesday, 12 May, 2009

Steve Baron said...

While we may not be able to put a value on mothers looking after children, as ZebulonJoe asks, productivity is still a good indicator as to how a country is performing. We can also measure unemployment, which although it may not be a perfect measure, it is yet another indicator. A real concern I have is that many of those who are unskilled and unemployed. They add nothing to productivity and they tend to be ethnic groups. These groups have a very high level of incarceration so I can only assume they create a higher percentage of the crimes committed. There is much agreement among economists that this comes about due to minimum wage laws. While minimum wage laws are good for those unskilled workers who have a job, they effectively reduce the chances of unskilled workers to get a job.