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New Zealand faces a big challenge to overcome its long-standing productivity shortfall

One of the biggest challenges facing New Zealand is its productivity shortfall relative to other OECD countries: New Zealand is currently ranked 22nd out of the 30 OECD countries in the productivity league table and an hour worked in New Zealand typically generates 30 per cent less output than an hour worked in Australia. Low productivity is not a new phenomenon: productivity has been an issue in New Zealand since at least the 1970s.

A focus on productivity is desirable not only so that New Zealand becomes more internationally competitive, but also because, in the long run, growth in incomes is fundamentally linked to output per worker. Growth in GDP per person rests on either encouraging a greater proportion of the population into work, or by improving the productivity with which each worker produces output. New Zealand has performed well in encouraging increased numbers of people into the labour market, but there is a limit to how much increased participation in the workforce can drive further growth. Productivity improvements must be at the heart of New Zealand’s future economic growth.

This is one of a series of Treasury papers on productivity performance

This paper is part of the Productivity Performance and Policy series of papers that discuss New Zealand’s long-term productivity performance and the factors that may be inhibiting New Zealand from reaching its potential. Putting Productivity First is the overview paper which sets out the productivity challenge facing New Zealand and highlights key issues across five drivers of productivity: enterprise, skills, innovation, investment, and natural resources. The next two papers, New Zealand’s Productivity Performance and Does Quality Matter in Labour Input? The Changing Pattern of Labour Composition in New Zealand, discuss past and more recent productivity performance and the impact that improving labour quality has had on labour productivity respectively. The final four papers address the enterprise, innovation, investment and skills drivers in turn, building on the analysis in the preceding papers by reviewing and interpreting available evidence to draw conclusions for the underlying factors affecting productivity.

A number of factors are important for lifting productivity and there are no quick fixes. For some measures the impact may not be seen for decades. Enterprise and the policies that underpin it are one important element in lifting productivity performance.

Enterprise in New Zealand: summary messages

  • Enterprise is broader than start-up activity. It includes any individual or firm that seeks to take advantage of an economic opportunity. This ranges from one person start-ups using a new idea to managers in large multinational companies identifying and implementing new techniques.
  • New Zealand has a strong enterprise culture: high levels of business start-up activity and robust rates of firm turnover underpin New Zealand’s productivity growth.
  • However, there is some evidence to suggest large firms may be underperforming, as measured by value added, compared with other developed nations. In addition, relatively few New Zealand firms internationalise, as measured by exporting activity. These observations, combined with the overall productivity challenge facing New Zealand, suggest possible underlying weaknesses in the business environment.
  • Although still emerging, the literature suggests management capability (skills and talents) and management practices (business processes and structures) matter for productivity performance. Management performance depends on a wide range of factors, such as competition for management positions, skills and training and the aspirations of the manager. The most important institutional factor that drives better performance is the level of domestic and international competition.
  • The four other drivers of productivity: capital, skills, innovation and natural resources, matter for the fifth, enterprise. Robust investment, a broad skills base, a strong innovation system and sound management of natural resources provide the ideas and the resources which entrepreneurs can take advantage. Given New Zealand’s location and domestic market size, providing the conditions to access international as well as domestic sources of people and ideas are particularly important.
  • Competition drives innovation and firm performance. New Zealand has low barriers to product market competition and is open to competition for corporate control. However, the small domestic market tends to mean that relatively small numbers of firms supply a large share of the market, which may be inhibiting product market competition for some firms or sectors. In addition, some large firms are sheltered from the incentives to improve performance provided by the financial markets. Maintaining a high level of competition is fundamental to improving New Zealand’s firm performance.
  • The stock and the flow of regulation should be continually reviewed in order to make sure that the system remains fit for purpose, with specific consideration given to areas where regulation may be inhibiting growth. Regulation should be used to achieve a genuine benefit for society, exceeding the costs of regulation, and when other measures to achieve the specific objective have been ruled out.
  • The tax system affects the quality of the business environment by altering the incentives for firms to invest in physical capital and research and development, and for individuals to acquire skills. Understanding the impact of the tax system on the drivers of productivity is important when formulating tax policy.
  • New Zealand’s domestic market size implies that firms have to internationalise at a younger stage in their life cycle than similar firms in larger countries. Focussing the activities of New Zealand Trade and Enterprise on the most effective programmes both to increase productivity and to overcome specific barriers to internationalisation will allow more firms to export and increase their market size.

Overall, New Zealand has some positive entrepreneurial attributes, including high levels of start-up activity. Improving productivity performance requires a focus on the areas where New Zealand performs less well, such as maintaining high levels of competition and setting in place a system to ensure ongoing improvements in regulation. The rest of this paper assesses New Zealand’s entrepreneurial environment and sets out a framework, with policy considerations, for each of the elements within it.

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