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4 – Introduction to measuring productivity

This section provides a brief introduction to what productivity is and, perhaps just as importantly, what it is not. This section also covers the most important challenges facing the compiler. The idea is to provide a brief overview for the casual reader. For those interested in greater technical detail of the concepts and definitions, this detail can be found in section 5.

4.1 What is productivity?

As the name implies, productivity is a measure associated with production. Productivity is defined to be the ratio of output to inputs. Further information on the different ways of calculating this ratio can be found in section 5.3.7. Figure 1 is a representation of a simple production process. This shows in a simple form that inputs are used in a production process to produce output, which is consumed in order to achieve one or more outcomes. ________________________________________

Figure 1 A simple representation of a production process

figure 1, flow diagram of representation of production process

________________________________________

To illustrate what these terms signify, here is a health care example: a person breaks a leg, which turns out to be an incomplete, closed fracture (the bone is not separated into two parts and the skin is not broken). These are the individual activities that make up the typical production process:

  • NZ emergency services deal with call and send out ambulance
  • Ambulance provides first aid and delivers person to hospital
  • Accident and Emergency ward evaluates the injury
  • Movement of the leg is restricted, using either a splint or 
  • Medications are prescribed to reduce pain and inflammation
  • Recovery is monitored, either in primary care or outpatients
  • The splint or cast is removed after the healing process

Inputs are divided into three factors of production: labour, capital, and consumables (in economic accounting, consumables are referred to as intermediate consumption).

In the example above, labour includes the time spent by a number of different health professionals, including the ambulance staff and those working in accident and emergency. This also includes administrative staff, including the person staffing the emergency telephone and all of the support staff.

Intermediate consumption includes the medical supplies such as the splint and the medication, as well as all other kinds of consumable such as electricity, building rental, petrol for the ambulance and so on.

Capital includes the buildings that are owned (not rented) and the ambulance.

The production process consists of the different activities listed above.

The output is a whole course of treatment for the patient (see section 6.2.1 for further information on this definition).

The outcome is that the person can return to work and enjoy their social life with full mobility and no pain.

An absolute measure of productivity is in itself not interesting: it is only meaningful as part of a comparison. The type of comparison that is the object of this feasibility study is a time-series comparison, that is, how is productivity changing over time. The other type of comparison is a spatial comparison, that is, how is productivity different between, for example, countries. This feasibility study does not specifically address the measurement of spatial comparisons of productivity, but the principles set out in this feasibility study are as apt for this as for time series comparison.

The focus of this feasibility study is therefore on how productivity is changing over time. Change in productivity is defined as the ratio of the change in the volume of output to change in the volume of inputs. For the equivalent in mathematical notation and a discussion of different types of productivity equation, please refer to section 5.3.8.

Change in productivity can be thought of as a residual: what is left over when changes in measured output and measured inputs are controlled for. When looked at in this way, it can be seen that this productivity residual is a compound of a number of different possible factors:

  • Any error in measured inputs (for example not taking full account of the substitution of part-time for full-time work). 
  • Any error in measured output (for example not taking into account quality change). 
  • Any bias introduced in distinguishing between price and volume effects over time. 
  • The introduction of new technology to the production process which reduces the resources required for producing the same output 
  • Changing technical efficiency of a production process. 
  • Changing allocative efficiency associated with the range of different production processes in an economy.

Arguably, the more interesting components are the latter three, but clearly any measurement error due to the first three will show up in the productivity residual, and the statistician’s task is to minimise the impact from these sources of measurement error.

4.2 And what is productivity not? top

Those interested in the performance of government services may be interested in productivity performance as one aspect of performance, but there are other indicators of use beyond productivity. As part of a package of indicators that might be useful to those wishing to understand the economic performance of government services, three other high-level indicators are typically studied, each of which is slightly different, and are thought of as the ‘three Es’: economy, or value-for-money, efficiency, and effectiveness. Whereas productivity and efficiency tend to have fairly well accepted definitions, there is a lack of consensus in the definitions of economy and effectiveness. Each takes on slightly different meanings depending on the context:

  • Technical efficiency is about minimising the resources used in producing a particular output. 
  • Allocative efficiency is about choosing the right mix of inputs and output given their relative prices. 
  • Economy, or value-for-money tends to refer to a measure of cost per output or cost per input. 
  • Effectiveness tends to relate outcomes to either inputs or output.

Irrespective of these different concepts and the relationships between them, this feasibility study concerns the measurement of productivity change and not to economy, efficiency, or effectiveness per se. That is not to say, though, that these other concepts are any less or any more important. Productivity estimates should be distinguished from performance measures. Productivity estimates provide insight into the drivers of economic growth by breaking down growth into growth of inputs, growth of output, and changes in productivity. Tracking the volume of services provided and the resources required to do so is a subset of performance measurement, and says little about the value to final users or how the services are being provided. Stevens, Stokes, and O'Mahony (2006) found almost no relationship between labour productivity and the star ratings assigned in hospital performance management systems in the UK, so caution is strongly urged.

Cautionary note G1

Change in productivity, or change in the ratio of output to inputs, is one of many indicators that may be of interest to those wishing to understand the performance of (or parts of) the economy. Productivity is one measure of how efficiently the economy is using inputs to produce output. Other indicators of performance include, for example, economy, value-for-money, and effectiveness.  

4.3 Why government productivity and why health care and education?

This study is about the feasibility of measuring change in government productivity for a number of reasons. Government expenditure and production are sizeable proportions of the total economy, so gaining an understanding of government productivity performance would lead directly to an improved understanding of the productivity performance of the whole economy. Furthermore, understanding government productivity is useful in its own right as part of a response to an increasing interest in accountability of public expenditure. Taxpayers have a right to understand how their tax contributions are used in providing essential services to the population at large.

A major report commissioned by the President of France, Nicolas Sarkozy, and published last year by Professors Joseph Stiglitz, Amartya Sen and Jean-Paul Fitoussi (Stiglitz 2009) repeats these messages, dwelling on the importance of “improving the measurement of government-provided services”, and stressing the need to use economic measures of performance, such as productivity, alongside other measures that are important in order to get a broad view of performance.

This study does not cover all government services, however. It focuses on health care and education as these are perhaps two of the most important services as far as many people are concerned. Additionally, health care and education services are the services which receive the highest government expenditure, and their measurement has been studied the most by other countries and international organisations.

Subject to the availability of resources and priorities, it would be possible to extend any analysis to other government services: many of the issues and potential solutions for health care and education discussed in this study are also apt for other types of government service. Indeed, other countries have published estimates of the productivity of other government services. The United Kingdom, for example, has also published articles on the police (ONS 2009), children’s’ social care (ONS 2008a), social security administration (ONS 2008b), the criminal justice system (ONS 2008c), defence (ONS 2008d), and adult social care (ONS 2007).

4.4 Main challenges in measuring government productivity top

This sub-section sets out what the main challenges are in measuring government productivity. These challenges mainly relate to the measurement of output: the measurement of inputs is relatively straightforward, although far from trivial.

Before that, it is important to point out that it would be possible to measure change in government health care and education productivity in New Zealand according to best practice worldwide. Indeed, the estimates of health care and education output that are currently produced (see sections 6.2 and 7.2) are as good as those produced by many other countries. Only a small number of incremental improvements would need to be made to the sources and methods employed in compiling these estimates to bring the estimates up to the very best worldwide practice.

The first challenge relates to the definition of scope for any government productivity measure: determining what the coverage is in terms of the output and inputs. The second challenge concerns the measurement of quality change in government services, and how to incorporate estimates of quality change into (the relatively easy-to-compile) estimates of quantity change.

The third main challenge is about establishing the relative value or importance of the different services provided by government. In competitive markets, prices convey this information on relative value. There tends not to be the equivalent of market prices for government services so a different method is needed for establishing the relative value for government services.

Other issues associated with government productivity measurement, beyond these main challenges, are set out and discussed in section 5.

4.4.1 Scope

A key question which needs to be addressed concerns the scope, or coverage, of government productivity measures for health care and education. There are a number of perspectives from which productivity performance is of interest, and from each perspective the question, and therefore the answer, is not necessarily the same.

From the National Accounts perspective, as well as the economy-wide productivity performance perspective, the question would be, ‘how much does the health care or education industry contribute to total economic output?’ Here the scope is defined by industry (according to the ANZSIC classification). A first step should be to address the industry perspective to, provide estimates of government productivity that are consistent with Statistics NZ’s existing market sector productivity estimates.

From the perspective of those in charge of public sector service provision, one of the economic questions might be, ‘how do publicly-owned parts of the health care and education systems contribute to the economy, and how is the associated productivity changing over time?’ Here the scope is defined by whether the production is carried out by the public or private sector.

From the perspective of taxpayers, the question might be, ‘how well are taxpayer funds, or government controlled funds, being used in delivering health care and education?’ Here the scope is defined by the source of financing. Variations on a theme are provided by whether this question is narrowly defined to cover only Ministry of Health or Ministry of Education funding, or other parts of the public sector – such as the Accident Compensation Corporation, Ministry of Social Development, prisons and the armed forces – incurring expenditure on health care and education.

These scoping questions matter, as the information requirements differ and perhaps more importantly the end results will also differ.

This feasibility study does not offer a single answer to these particular scoping questions, but rather sets out how sources and methods can be combined for whichever of the different measures is required. Scoping issues specific to health care and education are discussed in greater detail in sections 6 and 7.

Recommendation G1

Any implementation of this study should be clear what the question(s) associated with any requested productivity measure is (are), with particular emphasis on the perspective of the measure.

 
 
Recommendation G2

A first step in implementing this study should be to address the industry perspective, to provide estimates of government productivity that are consistent with Statistics NZ’s existing market sector productivity estimates.

4.4.2 Defining government output and dealing with quality change top

While the equivalent of competitive market prices for government services is not available, information on what public services are provided is relatively plentiful. Information exists on, for example, the number of operations performed in hospitals, or the numbers of pupils taught in schools.

Output, however, subsumes the above concept of quantity (that is, how many…?) and the concept of quality (that is, how good…?). Change over time in, for example, the volume of hospital services, should include both the change in the number of activities performed in hospitals, as well as change in the quality of those activities.

What is problematic in deriving output volumes for government services is how to measure the way in which quality is changing. Quality is acknowledged to be multi-dimensional (speed, success, comfort, and so on) and it is not always the case that information on all of the dimensions is available. Further, there is little agreement about how these dimensions should be added together amongst the countries and international institutions that are expert in this area.

It should be noted in passing that, even in the market sector, output is sometimes just as hard to define, usually because the output is not in the form of goods, such as bread and motor vehicles, but in the form of services, such as banking or legal services.

Further detail on this is in section 5.3.2.

4.4.3 Lack of prices

In the non-market sector, there are no prices paid, as services are typically provided for free or at prices that do not reflect the relative value given by the price in a competitive market. This lack of prices compounds the difficulty of defining what output is in the non-market sector.

Prices are essential for the calculation of the volume of output. According to economic theory, prices are set in competitive markets at the level where the marginal value to the consumer equals the marginal cost of production. The price, therefore, conveys information about the relative value, or relative importance, to the consumer of each and every good and service that is bought on competitive markets. The price, or relative value, is used in economic accounting in a simple re-arrangement of the equation that says expenditure is price multiplied by volume:

  1. In some cases, growth in the volume of output is calculated by taking out the effect of changing prices (inflation) from expenditure on goods and services. 
  2. In other cases, growth in the volume of different goods and services is aggregated into total volume of output, using prices as the measure of relative importance.

In order to create estimates of change in the volume of government output, an explicit relative value must be discerned as a replacement for the price.

The international consensus on what is the best way to deduce the equivalent of a price is to calculate the costs of production for each of the goods and services provided, and use these as the measure of relative value.

Further detail on this is in section 5.3.4.

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