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What is 'Labor Productivity'

Labor productivity measures the hourly output of a country's economy. Specifically, it charts the amount of real gross domestic product (GDP) produced by an hour of labor. Growth in labor productivity depends on three main factors: investment and saving in physical capital, new technology and human capital.

BREAKING DOWN 'Labor Productivity'

Labor productivity, also known as workforce productivity, is defined as real economic output per labor hour. Growth in labor productivity is measured by the change in economic output per labor hour over a defined period. Labor productivity should not be confused with employee productivity, which is a measure of an individual worker's output. 

How to Calculate Labor Productivity

To calculate a country's labor productivity, you would divide the total output by the total number of labor hours. 

For example, suppose the real GDP of an economy is $10 trillion and the aggregate hours of labor in the country is 300 billion. The labor productivity would be $10 trillion divided by 300 billion, equaling about $33 per labor hour. If the real GDP of the same economy grows to $20 trillion the next year and its labor hours increase to 350 billion, the economy's growth in labor productivity would be 72 percent.

The growth number is derived by dividing the new real GDP of $57 by the previous real GDP of $33. Growth in this labor productivity number can usually be interpreted as improved standards of living in the country.

The Importance of Measuring Labor Productivity

Labor productivity is directly linked to improved standards of living in the form of higher consumption. As an economy's labor productivity grows, it produces more goods and services for the same amount of relative work. This increase in output makes it possible to consume more of the goods and services for an increasingly reasonable price.

Growth in labor productivity is directly attributable to fluctuations in physical capital, new technology and human capital. If labor productivity is growing, it can be traced back to growth in one of these three areas. Physical capital is the amount of money that people have in savings and investments. New technologies are technological advancements, such as robots or assembly lines. Human capital represents the increase in education and specialization of the workforce. Measuring labor productivity allows an economy to understand these underlying trends.

Labor productivity is also an important measure of the short-term and cyclical changes in an economy. High-level labor productivity is a combination of total output and labor hours. Measuring labor productivity each quarter allows an economy to measure the change in its output in relation to the change in its labor hours.

If the output is increasing while labor hours remains static, it could be a sign that the economy is advancing technologically and should continue to do so. Conversely, if labor hours increase in relation to flat output, it may be a sign that the economy needs to invest in education to increase its human capital.

Policies to Improve Labor Productivity

There are a number of ways that governments and companies can improve labor productivity.

  • Investment in infrastructure: Increasing the investment in infrastructure from governments and the private sector can help productivity while lowering the cost of doing business.
  • Tax and welfare reforms: Implementing these improve work incentives and increases incomes of people who work more productively. 
  • Quality of education and training: Offering opportunities for workers to upgrade their skills, and offering education and training at an affordable cost, help raise a corporation’s productivity.
  • Business investment: Increasing the size of and consistently upgrading a company’s capital stock by pushing out machines that are aged and less efficient.
  • Tax breaks: Offering incentives for businesses to use clean, efficient and new technology to help increase output.
  • Deregulating markets: Increasing competition to enter the market can lead to greater efficiency and higher productivity.
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