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This is the second in a four-part series that explains productivity and why it matters to investors. You can read the first article here:

Most Canadians would likely say that we have been doing pretty well in terms of achieving economic prosperity-in fact, better than most countries. And they would be right. But, as they say in investing, the past does not necessarily provide good information for judging the future.

Canada Has Had Some Help in Recent Years

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In recent years, Canada has had a lot going for it. In fact, economic conditions have helped us to appear more productive than we really are. For example, as Kevin Lynch, past Clerk of the Privy Council, summarized in an article in The Globe and Mail:

• The U.S. economy experienced many years of significant growth-which helped create demand for our goods and services sold in the U.S.

• The world prices of many of our resources (e.g., oil, gold, uranium) have been quite high, bringing more money into Canada as we sold them in global markets

Investor Education: Productivity as explained by Gary Rabbior

• And we have had the entry of the baby-boom in the labour market which increased our supply of labour-and enabled us to produce more.

• A relatively low valued Canadian dollar made it easier for our largest trading partner (the U.S.), and other countries, to buy our exports

In other words, these factors made it easier for us to produce more, sell more, earn more, and do well. It didn't necessarily mean that we were more productive and that we were using our resources more effectively and finding ways to get more from our resources. In fact, as Mr. Lynch also noted, in 2007 Canada's level of business productivity was about 75 per cent of that of U.S. businesses. That means that the U.S. was making better use of its resources than we were-even though Canada was doing very well.

But Times Are Changing

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Therefore, Canadians couldn't be blamed for thinking that Canada must be doing pretty well-and be producing as well, or better, than other countries-including the U.S. But they would be mistaken. Statistics show that Canada has had very low or, in some cases, no productivity improvement in recent years. We are lagging far behind the U.S. and other OECD countries.

There are a number of possible factors contributing to this-such as shifting more production away from manufacturing to resources; a lack of investment in capital; and a relatively poor performance in developing and integrating new innovation. These and other factors have been contributing to a lack of productivity improvement in Canada.

Therefore, as times and economic conditions changed, and continue to change, Canada faces new important challenges. Our dollar has strengthened so it now costs Americans, and others, more to buy our currency-which means the prices of our exports have risen-and may well rise further. This can make it more important for us to find ways to use our resources more efficiently.

In addition, the U.S. economy has weakened considerably over the last couple of years reducing demand for Canadian exports. Commodity prices are fluctuating up and down. And although unemployment is quite high now following the recession, the baby-boom is now starting to leave the labour market which may lead to a lower likely labour supply in the future. Some companies and industries are already experiencing labour shortages-and future labour shortages may worsen in the years ahead. A shortage of skilled labour can affect a company's ability to grow and take advantage of new opportunities.

Canada Needs to Improve Productivity

So what does this all mean for Canada? It means that we can no longer count on those other factors (low valued dollar, strong U.S. economy, high world commodity prices, and plentiful labour) to help us produce more, sell more, earn more, and become better off. In short, it comes down to the fact that we will need to improve our productivity.

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Lowering Wages Would Help - But Is That What You'd Want?

Consider for a moment one way Canadian producers could lower costs to compete with other world producers? One way would be to lower wages to workers-and thereby lower cost.

But do we want to become more competitive and lower cost by lowering wages? Similarly, do we want to lower production costs to be more competitive by making people work harder-perhaps even working harder or longer for lower wages? Most, if not all, Canadians would agree that isn't the country we want to have-or the future we want to build. The alternative is to become more competitive by improving productivity-using all of our resources more effectively-and being able to achieve higher employment and higher incomes as a result of our success.

How About Working Harder - or Longer - for Less? No Thanks!

It is likely fair to say that we don't want a country where some people make lots of money on the backs of people who work harder and harder for low, and perhaps lower, wages. There have been some countries in the past-and even some countries today-where that is the case. But, is it what we want for Canada? Probably not. Instead, most Canadians would share the goal of building a country where all Canadians can benefit from our success-and earn higher incomes over time. It may even be possible to achieve higher incomes by working less-or working smarter rather than harder.

That's what the productivity challenge is all about: finding ways to work better, smarter, more efficiently-to get more "output" from the resources we use as "inputs"-or get better output-or get the same output-by using fewer resources. Did someone say the word "conservation?" Yes, productivity can be a key to preserving our resources. If we use fewer resources to produce the same or more output, that can lower the "input cost," improve productivity-and conserve and preserve resources.

Improving Productivity is Key to Sustaining Higher Wages

In the end, if we are more productive, we will likely sell more of what we produce-both in global markets and here at home. If we produce and sell more, then jobs will be created. And wages, rather than falling, can rise because of that success. Let's look at why.

Everyone would like to be paid more. However, if people are paid more, but don't produce more, the higher wages will be difficult to pay-and may not last. Why? Because if there is no more output to sell, employers can't earn more money to pay higher wages. However, if increasing productivity results in more output using the same or less resources, then businesses can sell more, make more money, and be able to afford to pay higher wages to workers. So improving productivity is very important if we want wages to increase-and the evidence shows that improvement in productivity does result in higher wages.

At the same time, we can also do a better job of using our resources to produce higher quality output. If we produce products that are of better quality and higher value, then this can also lead to higher productivity, better jobs, and higher incomes.

Improving Productivity Can Generate Challenges

But this brings us to a key point. Improving productivity can help a producer lower unit production costs, become more competitive, and earn higher profits. But what happens to those higher profits? Are they shared with the workers who helped to achieve productivity gains? One challenge facing efforts to improve productivity is the concern regarding what happens to the gains achieved from higher productivity. The challenge of making sure that all Canadians share in the gains achieved from higher productivity is one that a country like Canada has to address.

In addition, if improving productivity means fewer workers are required, what happens to the workers who are no longer needed? Those who continue to keep their jobs may do better than they did before. But another challenge that arises is how to assist workers who are displaced - helping them to find other jobs, get new training, and so on. If we want all Canadians to benefit from improved productivity, these are some of the challenges we will need to address as well.

Again, evidence shows that countries with higher productivity do a better job of keeping and creating jobs than countries with lower productivity. But that evidence doesn't remove the challenge we face in addressing workers who are laid off or displaced by productivity improvements.

Therefore, efforts to improve productivity challenge us, not only to use our resources better, but also to effectively manage the gains and benefits we are able to achieve from improving productivity. And there are many.

Improving Productivity Can Affect Public Goods and Services - and Tax Rates

As another example, if we can generate higher incomes by improving productivity, we can increase government revenues. This can enable governments to provide more or better services-or reduce tax rates.

Improving Productivity Can Help Conserve Resources

Improving productivity can also, as noted, help us conserve our resources. Efforts to improve productivity encourage innovation and discovery-encourage investment-help control inflation-and help our economy to grow. So many good things can come from improving productivity. Improving productivity will be one of the most important keys to improving our prospects for the future.

So how do we improve productivity? That will be our focus in the remainder of the articles in this series.

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About the Author
Gary Rabbior

Gary Rabbior is president of the Canadian Foundation for Economic Education. More

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