Quick Bite – Australia’s Productivity Problem
The Albanese government’s “economic reform round table” will be held in Canberra this week, from Tuesday to Thursday. Its intention essentially is to address Australia’s declining productivity. But what is productivity, why does it matter, what can be done about, and how do we compare with other similar countries? All important questions, and this QB aims to shed a little light on the subject.
Australia is sliding down the productivity list, global rank based on purchasing-power-parity-adjusted GDP per capita: from 1st in 1885 to 12th now.
Source: Joe Walker
In essence, productivity, or the ability to produce more with the same inputs, sits at the heart of economic progress. It determines whether living standards rise or stagnate, whether governments can fund public services without crushing tax burdens, and whether economies remain competitive on the global stage. For Australia, with its ageing population and mounting fiscal pressures, productivity growth isn’t merely desirable – it is essential.
Source: ABS
The numbers paint a stark picture. Since 2017-18, Australia’s labour productivity has crawled forward at just 0.6% annually, less than half the 1.6% recorded in the two decades prior, and way behind what the US has been able to achieve. Total factor productivity (TFP), which is the purest measure of efficiency gains, has managed a paltry 0.2% per year over the same period. At current trajectories, Australia risks falling further behind its peers, with compounding effects that could cost the economy 20% or more in foregone output within a decade.
In its most recent statement, the RBA highlighted concerns about weak productivity growth in Australia, downgrading its medium-term productivity growth assumption to 0.7% per annum, down from 1%. This revision reflects a persistent slowdown in productivity growth, with the RBA noting that headwinds have lowered productivity growth over recent decades and are likely to continue. The RBA acknowledged that lower productivity growth will likely lead to slower growth in business revenues, household incomes, and ultimately, demand. This has also led to a revision of the RBA’s forecast for potential GDP growth, now estimated at around 2%.
Source: RBA, ABS
What are the problems with Australia’s productivity?
Australia faces a productivity paradox that threatens its long-term prosperity. Despite boasting one of the world’s most sophisticated economies, the country has witnessed its weakest productivity growth in six decades during the 2010s and early 2020s. While global forces account for roughly half this malaise, distinctly Australian factors – particularly from geographic concentration to regulatory rigidities and policy failures – compound the challenge. Understanding these dynamics, and crafting credible responses, represent perhaps the defining economic task of the next decade.
The Services Trap
One explanation for Australia’s productivity malaise centres on the “services trap”—the idea that as economies mature, they inevitably shift toward service sectors where productivity gains are far more elusive. This argument suggests that activities requiring human interaction resist automation. A therapist can use AI to compose patient notes, but the human interface and conversation between patient and therapist still needs to occur.
The data supports this theory – to a point. Australia’s services sector now makes up 80% of GDP, up dramatically from earlier decades. These industries – healthcare, education, professional services – often exhibit lower productivity levels and slower improvement rates than goods-producing sectors. Yet this explanation, while compelling, fails to account for productivity slowdowns within individual sectors, including services themselves.
Moreover, the services story may reflect measurement failures rather than genuine productivity constraints. Financial services, one of Australia’s supposed productivity leaders, demonstrates the challenge. What constitutes “output” in banking – transaction volumes, risk management, capital allocation efficiency, client servicing? When productivity statistics rely on revenue measures only, they struggle to capture quality improvements or new service categories that technology enables.
Source: Productivity Commission
The Geographic Challenge
Australia’s economic geography also presents unique constraints on productivity growth. Around 40% of our population is concentrated in Sydney and Melbourne – a level of urban concentration that exceeds most other developed economies. While these cities benefit from agglomeration effects, they increasingly face congestion costs that may offset productivity gains.
The theoretical case for urban density rests on two mechanisms: better matching between firms and workers, and knowledge spillovers that accelerate innovation. Yet both operate at different scales. Labour-market matching benefits from metropolitan-wide connectivity, while knowledge spillovers typically require much closer proximity: think Silicon Valley’s concentrated innovation districts rather than sprawling urban regions. I’m old enough to remember the concept of the Multi-Function Polis (MFP), proposed in the late 1980s as a city of the future and conceptually a place where work and leisure, lifetime education and intercultural exchange, research and manufacturing would be uniquely integrated – but as usual with big ideas, nothing ever came of it.
Australia’s challenge isn’t simply making its largest cities bigger, but developing alternative centres of economic activity. Cities like Canberra, with high human capital and established anchor institutions, represent untapped opportunities. The question is why such cities haven’t emerged naturally and what barriers prevent their development.
Source: ABS
Learning from Leaders and Laggards
Examining productivity leaders offers instructive contrasts. In industry terms, agriculture stands out as one of Australia’s productivity champions, achieving sustained improvements through scientific advancement, scale economies, and effective knowledge diffusion. The sector benefits from international exposure that demands efficiency gains, combined with innovation systems that spread best practices through extension services and industry collaboration.
Source: ABS, Kevin Fox
Construction, by contrast, exemplifies productivity failure.
Source: Productivity Commission 2025
Unlike manufacturing, where best sites can be reused indefinitely, construction consumes the best locations first, forcing activity onto progressively more challenging sites. This creates a measurement artifact, and effective productivity decline, even as individual projects maintain reasonable efficiency. The sector also suffers from excessive fragmentation, regulatory complexity, disruptive and corrupt unions and weak incentives for innovation.
Source: Productivity Commission
The US stands out
Internationally, the United States provides the most compelling comparison. American productivity growth has outpaced Australia’s significantly, driven largely by information and communication technology sectors. The US advantage appears concentrated among high-performing outliers rather than broad-based improvements, a pattern suggesting that frontier innovation, not average performance, increasingly determines national outcomes.
The US is at the Forefront of Productivity Growth
Source: US Dept of Labor
The Role of Government
Government’s productivity role should centre on removing barriers rather than trying to pick winners. Tax systems that penalize employees relative to small business owners discourage the assembling of talent within productive firms. Regulatory frameworks designed for 20th-century industries may impede 21st-century innovations, particularly in healthcare, energy and education where public sector involvement complicates technology adoption. See how the trade unions are lobbying against AI developments as an obvious example.
The climate transition presents both challenge and opportunity. It could be argued that efficient carbon pricing would drive productivity improvements across the economy, encouraging firms to find least-cost abatement strategies. Similarly, road user charging could replace crude fuel excise with congestion pricing that improves use of transport infrastructure. Both reforms require political courage but offer large economic dividends.
Perhaps most importantly, government must recognize productivity as an emergent property of well-functioning markets rather than something directly controllable through policy levers. The 1980s reforms succeeded not by targeting productivity explicitly, but by creating the appropriate conditions: competitive markets, price signals, openness to trade, strong incentives – that rewarded efficiency improvements.
The Great Stagnation
Australia’s productivity challenge reflects both global trends and domestic choices. Most economies worldwide struggle with slowing innovation rates as easy gains from earlier technological revolutions fade. Yet Australia’s particular constraints – geographic concentration, resource dependence, regulatory complexity, misuse of public capital (think of the rorting within the NDIS), political cowardice and the amplification of trade union resistance – magnify these difficulties.
The path forward requires recognizing productivity growth as a multifaceted challenge demanding coordinated responses. No single reform will restore the strong growth rates of the 1990s. Instead, success demands systematic attention to the institutional architecture that enables innovation, knowledge diffusion, and efficient resource allocation.
Source: RBA, ABS
While Australia’s mining boom of the Nineties provided temporary reprieve from productivity pressures, delivering income growth through higher commodity prices rather than improved efficiency, that windfall has faded. Now Australia faces a choice: embrace the difficult work of structural reform or accept gradual relative decline. The stakes – for living standards, fiscal sustainability, and competitive position – could hardly be higher.