Mathew Ingram: NZ should follow US example by spending on ICT

How important is productivity? Economist Paul Krugman said: "Productivity isn't everything, but in the long run it is 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." Therefore, the key to future growth and prosperity is increasing the productivity of the nation's workforce. But how?

In the corporate world, "increasing productivity" is often seen as a euphemism for layoffs, since one of the fastest ways for a company to boost productivity is by reducing the number of employees while maintaining the same output.

When it comes to countries, one of the easiest ways to increase productivity is by opening the borders to immigrants willing to work harder than the existing workforce.

Both measures can increase productivity, but most economists see them as short-term solutions.

Companies that expect the same output from fewer employees often wind up suffering from a reduction in the quality of their product, or labour disruptions, or both.

And countries that rely on hard-working immigrants to make up for the lack of productivity growth from the existing workforce often see their standard of living gradually decline, or various kinds of social unrest, or both.

That lesson is not lost on Phil O'Reilly, chief executive of Business New Zealand. In a speech this year, he said New Zealand had to find other ways of improving its productivity.

While there is no doubt the country has demonstrated good growth, he said, "three-quarters of our recent growth has resulted from increased labour utilisation," and the drawback to that is "constantly having to find new people to work is not a sustainable way to run a modern economy".

According to O'Reilly, "real incomes in New Zealand are continuing to fall behind Australia and other countries to which New Zealanders can easily move. In 1999, the average after-tax income in Australia was 20 per cent ahead of that in New Zealand. It is now 33 per cent ahead, an income gap equivalent to $200 a week. That is why we lose over 600 New Zealanders across the Tasman every week - often our best and brightest."

Until the late 1990s, the United States had spent the better part of three decades effectively stagnating in terms of productivity growth. During the 1970s and 1980s, growth was in the mid 1 per cent range. In the latter half of the 1990s, however, productivity grew by an average of about 3 per cent per year.

The key difference: increasing use of information and communications technology, which reduced costs and labour associated with a lot of US production, particularly in "knowledge-based" industries.

Some observers said this increase was in part a result of the technology-stock bubble, and that increased investment as a result of the dot-com frenzy and the Year 2000 hysteria boosted productivity rates higher than they might have been.

But the reality is that even after the bubble burst and the US slid into recession, its productivity continued to climb - between 2001 and 2004, the average annual growth in productivity was 4 per cent, more than three times what it was in the 1980s.

According to a research report by the Bank of Japan, investment in information technology "is estimated to have accounted for more than half of the acceleration in US productivity growth during the late 1990s."

The report also says: "in a number of other countries such as Australia, Canada, and Norway, robust economic growth in the late 1990s led by IT was also observed."

Former US Federal Reserve chairman Alan Greenspan has said information technology "leads to less wastage from extra production, more efficient distribution processes, and lower search and transactions costs" for businesses, all of which increase productivity.

New Zealand has a ways to go before its productivity growth can match that of its nearest neighbour.

The country's projected average annual productivity growth rate over the period from 1998 to 2006 is 1.6 per cent, compared with 1.9 per cent for Australia, 2.1 per cent for Britain, 2.6 per cent for the US, 3.4 per cent for South Korea and 3.6 per cent for Ireland.

Wages in Australia are substantially higher than they are in New Zealand, and one of the major reasons is the higher rates of productivity growth. According to one recent estimate, Australian per capita GDP is 30 per cent higher than New Zealand's.

Can New Zealand make up some of that ground through better investment in information and communication technology? The example set by the US, and to a lesser extent Canada, would seem to indicate that it could.