Why businesses have become less productive

A new report from the Productivity Commission (PC) has solved the mystery of why Australia's labour productivity is falling.

Labour productivity fell 4.6% in the 12 months to March 2023, according to the most recent data from the Australian Bureau of Statistics. The PC report said this was “most likely due to the unwinding of COVID-19 restrictions and the historically low unemployment rate”.

Focusing on the first cause, the report found that productivity rose during the pandemic.

“Less-productive firms were more likely to pause production, and contact-intensive service sectors were severely affected by COVID-19 restrictions. As a result, labour productivity increased through a productivity-enhancing reallocation of labour. More labour flowed towards high-productivity goods sectors, and within the same sector, labour also shifted to high-productivity firms,” the report found.

“As the pandemic subsided and restrictions were lifted, the service sector recovered and firms with low average productivity levels – such as hospitality – returned to production. This partly reversed the reallocation effect, lowering measured labour productivity.”

The downside of falling unemployment

As for the second cause, similar forces were at play.

“The COVID-19 pandemic at first caused an increase in under- and unemployment. This disproportionately affected low-productivity workers because the pandemic forced firms in lower-productivity customer-facing industries to cut costs, reduce production and lay off some of their workers. Consequently, this led to a temporary increase in labour productivity,” according to the report.

“As the labour market recovered from the COVID-19 pandemic and the unemployment rate fell to historic lows, lower-productivity workers reentered the workforce, thereby reducing labour productivity.”

Better times may lie ahead

PC Chair Michael Brennan said that while productivity had fallen recently, the increased digital capacity Australia developed during the pandemic could lead to a lasting productivity dividend.

“Government and business should continue to embrace innovation and invest in upskilling the workforce to maintain that momentum,” he said.