The true meaning of productivity – what is it really?

Last week, I wrote an article about a writer to the Straits Times who lamented that our labour productivity could be low because of our five-day workweek. In fact, she proposed that we returned to the five and a half day workweek. In response, I challenged the notion and stretched the mind to propose not five-, but a four-day workweek!

We received a response from a loyal subscriber who wrote to us and said, “I suspect a lot of people do not really understand the true meaning of productivity. In today’s world of over-capacity, over supply but under-demand, to a larger extent, I am afraid productivity may not be our main concern, there are other more pressing issues for us to deal with!”

What our reader actually alluded to was a more systemically damaging situation that is happening in our economy. Largely as a result of deregulation, or market liberalization, new market entrants with lower overheads and smaller output have come into the market, increasing supply. But this over-supply has not been met with a concomitant increase in demand, thereby causing price to fall. While this is not necessarily a bad thing on the consumer side, it can be potentially devastating on the supply side when larger organisations, which have spent hundreds of millions of dollars in capital expenditure, are now seeing their investment sit idle while smaller players are eating them for lunch. This problem is becoming more widespread as economic performance around the region takes a dip, thereby causing structural fissures.

This problem cannot be solved by labour productivity alone because that would not help; we need to look at Total Factor Productivity (TFP) or multifactor productivity (MFP). (There is a slight difference between TFP and MFP, but for the purposes of this post, we will keep it simple and keep them synonymous.) The formula for MFP is

(Total Output)÷ (Total Cost of Labour + Capital + Energy + Materials + Services)

The reason why productivity is dropping is because output is dropping. That is the primary reason. But with a tight labour market, the cost of labour remains high, so there needs to be variability in capital costs. That is where larger companies who have invested heavily in Singapore and need a longer amortization time, is in a disadvantaged position when the market is contracting. Their cost of capital is larger than smaller companies. Being larger, the cost of energy is also larger, and it would have been easier if power could have been turned down and up at will, but equipment need to consume a constant minimum energy, regardless of output. And that, again, works against a larger company. Where they can save perhaps is in material costs where a larger company has scale economies, and they might be able to move them between subsidiaries through global sourcing. Finally, the cost of services, which can be managed, is quite like the cost of energy – there is a minimum requirement.

As such, major companies are hit by many factors and they are compounded by over-supply and under-demand. But theirs is not a business where they come in one day, and leave another. Theirs is not an investment that can be turned on, and off, at the switch of a button. Theirs is not a business that can easily hire-and-fire, easily expand and contract; they have a social responsibility that the smaller businesses don’t need to handle.

So are we too myopic when we simply focus on labour productivity? Perhaps the government needs to retool its thinking and its focus; perhaps it is time they looked at Total Factor Productivity to deal with economic restructuring?