Unit I Basic Concepts of Productivity

Basic definition of productivity:

Depending upon who is defining it-whether it is an economist, accountant, manager,
politician, union leader, or industrial engineer-you will get a slightly different definition of
he term productivity. ow ever, if we closely e!amine the various definitions and
interpretations of this term, three "asic types of productivity appear to "e emerging. #or the
purpose of this te!t, we shall refer to these "asic forms as follows.
$% Partial Productivity: It is the ratio of output to one class of input. #or e!ample, la"or
productivity &the ratio of output to la"or input% is a partial productivity measure.
'imilarly, capital productivity &the ratio of output to capital input% and material
productivity &the ratio of output to materials input% are e!amples of partial productivity.
(% Total-factor productivity: It is the ratio of net output to the sum of associated la"or and
capital &factor% inputs. By )net output,* we mean total output minus intermediate goods
and services purchased. +otice that the denominator of this ration is made up of only the
la"or and capital input factors.
,% Total productivity: It is the ratio of total output to the sum of all input factors. -hus, a
total productivity measure reflects the .oint impact of all the inputs in producing the
output.
In al of the a"ove definitions, "oth the output and input &s% are e!pressed in
)real* or )physical* terms "y "eing reduced to constant dollars &or any other monetary
currency% of a reference period &often referred to as )"ase period*%. -his reducing to "ase
period is accomplished "y dividing the values of output and input&s% "y deflators or
inflators, depending upon whether the prices of outputs and inputs have gone up or down,
respectively. In other words, the effect of reducing the output and input&s% to a "ase period
is to eliminate the effects of price variations, so that only the )physical* changes in output
and input&s% are considered in any of the productivity ratios.
/e shall ta0e a simple numerical e!ample to illustrate these here "asic definitions.
Example: Consider the 1BC Company. -he data for output produced and inputs consumed
for a particular time period are given "elow.
2utput 3 4$555
uman input 3 ,55
6aterial input 3 (55
Capital input 3 ,55
7nergy input 3 $55
2ther e!pense input 3 85
It is assumed that these values are in constant dollars with respect to a "ase period. -hen the
partial, total-factor, and total productivity values are computed as follows9
Partial productivities9
uman productivity 3 output:human input 3 $555:,55 3 ,.,,
6aterial productivity 3 output:material input 3 $555:(55 3 8
Capital productivity 3 output:capital input 3 $555:,55 3 ,.,,
7nergy productivity 3 output:energy input 3 $555:$55 3 $5
2ther e!pense productivity 3 output:other e!pense input 3 $555:85 3 (5
-otal-factor productivity 3 net output: &la"or ; capital% input
3 total output < material and services purchased: &la"or ; capital% input
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Unit I Basic Concepts of Productivity
1ssume that the company purchases all its materials and services, including the energy,
machinery and e?uipment &on lease%, and other services, such as mar0eting, advertising,
information processing, consulting, etc.
1dvantages and limitations of using the three "asic types of productivity measures in
companies.
1dvantages limitations
Partial productivity measures
$% 7asy to understand. $% If used alone, can "e very misleading
and may lead to costly mista0es.
(% 7asy to o"tain the data. (% Do not have the a"ility to e!plain
overall cost increases.
,% 7asy to compute the productivity indices ,% -end to shift the "lame to the wrong
areas of management control.
@% 7asy to sell to management @% Profit control through partial
"ecause of the a"ove three advantages. productivity measures can "e a hit-
and-miss approach.
8% 'ome partial productivity indicator data
is availa"le industry wide.
A% Bood diagnostic tools to pinpoint areas
for productivity improvement, if used
along with total productivity indicators.
Total factor productivity measure:
$. -he data from company records are $. Does not capture the impact of
relatively easy o"tain. materials and energy inputs.
(. Usually appealing from a corporate (. -he value-added approach to defining
economistCs viewpoint. the output is not very appropriate in a
company setting "ecause it is difficult
for operational managers to relate the
value-added output to production efficiency.
,. +ot appropriate when material costs
from a siDa"le portion of total product
costs since the impact of material input
is not directly shown in this
productivity measure.
@. 2nly la"or and capital inputs are
considered in the total factor input.
8. Data for comparison purposes are relatively
difficult to o"tain, although for some specific
industries and specific time periods, the
indices have "een pu"lished.
Total productivity measure:
$. Considers all the ?uantifia"le output and $. Data for computations are relatively
input factors9 therefore, is a more accurate difficult to o"tain at product and
representation of the real economic picture customer levels, unless data collection
of a company systems are designed for this purpose.
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Unit I Basic Concepts of Productivity
(. Profit control through the use of total (. 1s with the partial and total-factor
productivity indices is a tremendous measures, does not consider intangi"le
"enefit to top management. factors of output and input in a direct
sense.
,. If used in con.unction with partial
measures, can direct management attention
in an effective manner.
@. 'ensitivity analysis is easier to perform
8. 7asily related to total costs.
1.1 Productivity vs. Inflation:
/hile increased inflation rates in an economy must "e e!plained "y the .oint effect of
several factors, economists do agree that a lac0 of productivity growth contri"utes to the
increase. 1s e!pected, this is "ecause price inflation of goods and services results from the
e!cessive increases in sales prices of products or services. 'uch increases are mostly due to
the managementCs intention to meet their sales revenue targets, even if it means increasing
the selling price .ust to hold the profits margins. 1lso, since the path of least resistance is to
pass the increases in input costs on to the customer, many companies resorts to that strategy
rather than consistently increasing total productivity, a practice that can actually reduce, if
not hold, the total cost of manufacture.
/illard Butcher E$FGFH of the chase 6anhattan Ban0, in his remar0s at the -own hall
of California on 'eptem"er (8, $FGF, emphasiDes.
-he most compelling force we possess to improve our standard of living while at the same time fight
inflation may very well "e increased productivity.
-he percent increases in prices and la"or productivity are inversely correlated in fig $.$ and
$.(, reinforcing the a"ove statement.
.
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Unit I Basic Concepts of Productivity
Fig 1.2 Ielation "etween price increases and la"or productivity in selected
industries, $FA5 to $FGJ.
#or an e!ample of the relationship "etween productivity and price increases, consider
the case of the 7li Killy Company, one of the "etter 0nown pharmaceutical companies in the
world. During the period $FA,-$FG@, "y increasing its total factor productivity at a rate of
$5.$L years on average. Killy decreased its prices at an average annual rate of 5.@L EMirts
and Coc0s, $FGAH.
=ohn /. Nendric0, a well-0nown professor of economics at Beorge /ashington University,
is reported "y the Chicago tribune &=anuary $$, $FGF% to have said that )productivity could
"e a potent weapon in fighting inflation.*
Beoffrey 6oore E$FG,H &Mice President of Iesearch at the +ational Bureau of 7conomic
Iesearch, and 'enior Iesearch #ellow at -he oover Institution, 'tanford University, in
$FG(% also points out in great detail the need for increasing productivity to com"at inflation
over the ne!t several years.
#ig $.,, ta0en from a recent pu"lication of United 'tates Cham"er of Commerce E$FGFH,
points out that the money supply in the United 'tates grew faster in the $FG5s than it did in
the $FA5s. #aster growth in the money supply and slower real growth in output have
produced higher inflation. In other words, the money supply grew faster in recent years than
did the national output of goods per unit of la"or resource &la"or productivity%.
Bross 6oney Bross national product
+ational 'upply
6oney Product
'upply Inflation Portion

Ieal growth portion
Fig 1. 6oney supply growth faster than real growth in B+P, there"y causing inflation
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Unit I Basic Concepts of Productivity
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