Productivity is the efficiency with which an economy transforms inputs (such as labour and capital) into outputs (such as goods and services). When a nation achieves productivity growth, it is able to produce more goods and services from the same quantity of labour, capital, land, energy and other resources. In turn, improved production efficiency can generate higher real incomes and lead to long-term improvements in Australia's living standards. While education and training improve the quality of the labour force over time, and are a key input into productivity growth, lack of innovation, research, development, or investment in assets can reduce productivity growth and thus Australia's ability to compete in the international market.

The most comprehensive Australian measure of productivity available is multifactor productivity. It measures the efficiency with which combined labour and capital inputs are transformed into outputs. In the long-term, it represents improvements in ways of doing things (technical progress), which is the primary source of real economic growth and higher living standards. In the short term however, multifactor productivity also reflects unexplained factors such as cyclical variations in labour and capital utilisation, economies of scale, and measurement error.

Australia's multifactor productivity performance has varied over the last decade. Up until 2003-04, multifactor productivity grew strongly. Since 2004-05 however, multifactor productivity has recorded negative growth in most years.

A useful analytical tool is the growth accounting framework. In this framework, real output growth is explained by the sum of the growth in inputs and multifactor productivity. Growth accounts are published for productivity growth cycles which minimise the distortions due to variations in capacity utilisation at different times of an economic cycle. This is done by calculating the average annual growth rate of MFP between cyclical peaks.

For the growth cycle of 1998-99 to 2003-04, real output growth (3.6%) exceeded growth in inputs (2.7%) resulting in positive growth in multifactor productivity (0.7%). In the most recent productivity growth cycle, 2003-04 to 2007-08, growth in inputs (4.5%) exceeded growth in outputs (3.7%) and multifactor productivity therefore experienced negative growth (-0.8%). On balance, the last two growth cycles have been largely offsetting resulting in a slightly positive multifactor productivity growth of 0.1%.

For more in-depth discussion about how productivity relates to progress please see the Productivity chapter in Measures of Australia’s Progress, 2010 (cat. no. 1370.0).