Efficiency and Productivity

The Economic Efficiency and Productivity of Production Factors and Production Processes

An Article in the Compendium of Market-Based Social-Ecological Economics

Key issues in view of the neoliberal crisis:
How can we guarantee employment and fair income?
How can we protect the environment effectively?
How should we shape the economic globalization?
What should the economic sciences contribute?
What must be the vital tasks of economic policy?
How can we legitimize economic policy democratically?

Click here for the list of all articles: Compendium
Click here for the German-language version: Effizienz und Produktivität

Table of Contents

  1. Abstract
  2. Efficiency
  3. Productivity
    > 3.1 Genuine Productivity Gains
    > 3.2 Neoliberal Apparent Productivity
  4. Prospects

1. Abstract

ProduktivitätJPG02It can be seen that the definition of productivity is the key to sustainable globalization: instead of deriving productivity from isolated capital efficiency, it must be socially and ecologically defined, i. e. it must fulfil a social and ecological function. This means that the external costs caused by production processes must be allocated to the production factors without exception in order to find their way into pricing and create incentives to avoid them. A promising requirement to redefine productivity leads from the current neoliberal process of concentration to decentralization, or rather: subsidiarization of economic structure and activity, which involves all citizens as producers (entrepreneurs and employees) and consumers and assigns direct responsibility to them for the human and natural resources of their local and regional environment.

2. Efficiency


In economic context, the term efficiency is mainly used to describe the economic efficiency of the three factors of production (labour, natural resources and capital).

However, the term can also refer to the economic efficiency of production processes and is then synonymous with the term productivity.

For further details see the following section Productivity.

The three factors of production should be interpreted broadly:

  1. The factor labour (human capital) comprises the different forms of physical and intellectual work, the associated training and education as well as all entrepreneurial and social expenditures to maintain the labour force.
  2. The factor natural resources (natural capital) includes land, water, air, non-renewable and renewable raw materials (for example minerals and timber) and energy sources as well as all business and social expenditures for the conservation of resources.
  3. The factor capital (initially: physical or real capital) comprises buildings, machines, tools, energy and immaterial assets such as inventions, processes and the political and legal order as well as all entrepreneurial and social expenditures for the promotion of physical capital. Monetary capital is also subsumed under the term capital, because it can be exchanged for physical capital at any time, but even more so because it creates economic incentives for the creation of new physical capital in the wake of the creation of money by the central bank and commercial banks, and, ultimately, leads to new end products.

The efficient use of production factors is aimed to

  1. use and maintain the skills of the labour force as cost-effectively as possible,
  2. use natural resources as cost-effectively as possible and to secure their existence for human utilization in the long term,
  3. develop, produce and deploy the physical capital in such a way that human and natural resources are used as cost-effectively as possible and that the products to be produced are as socially and environmentally compatible as possible. (Physical capital is referred to as a derivative factor because, unlike the original factors labour and natural resources, it is itself the result of a production process.)

In contrast to the efficiency of the production factors, the efficient (productive) design of production processes in general is about achieving a certain result with the least possible input of resources or achieving the best possible result with given means.

Basically efficiency must be distinguished from effectiveness: Efficiency refers to how economically productive a production factor is deployed or how economically productive a production process is performed. While effectiveness indicates how suitable and operative a factor or process basically is to achieve a desired result. Popularly speaking, you’re efficient when you do things right, and you’re effective when you do the right things. And, obviously, when you do the right things right, you’re both efficient and effective.

By the way, the terms »economical« and »costeffective« are synonymous with the term »efficient«.

Back to the production factors: In determining their efficiency, there may be contradictions and disparities between the micro-economic (business) and macro-economic (national) calculation of accounts, which, as is the case under neoliberal conditions, point to inadequate economic policy regulation and control. For example, when companies are allowed to merge at will and concentrate capital in order to cut jobs and undercut their competitors’ prices, or exploit raw materials at will and turn them into waste. This will increase the business efficiency in purely mathematical terms, but will, at the same time, decrease the actual national efficiency, because labour and natural resources are allocated and utilized inefficiently and could be damaged or even destroyed in the long term.

In other words, when companies maximize their return on investment at the expense of labour and natural resources in an environment of inadequate economic regulation and control, their production processes will provoke negative external effects, i. e. they generate external costs which they themselves do not have to bear but which damage the factors labour and natural resources. The supposed capital efficiency then turns out to be a misallocation of all three production factors caused by the factor capital. A truly efficient utilization of the derived factor capital – including a sustainable return on investment – can only be achieved through the efficient utilization of the original factors labour and natural resources. A capital efficiency independent of the original factors is therefore, by definition, not possible.

In summary, the following applies to business (micro-economic) efficiency: It’s all the higher,

  1. the more appropriate the qualification and the more optimal the deployment of the workforce,
  2. the more sparing and considerate the deployment of non-renewable and renewable natural resources, and
  3. the higher the degree of utilization of the production facilities (the physical capital) is.

The macro-economic (national) efficiency includes the criteria of the business (micro-economic) efficiency, and beyond that it’s all the higher,

  1. the higher the employment rate is, i. e. the more individuals of the potential labour force in fact participate on the productive side of the economy,
  2. the more regularly and accurately income and working hours are adjusted to productivity growth,
  3. the more even and performance-based the distribution of adjusted income is in the population for the purpose of functional and diverse economic cycles, and
  4. the more sustainable the utilization of natural resources is, i. e. to what extent non-renewable resources are reused in material cycles (technological recycling) or are replaced by renewable resources, and to what extent the renewable resources are regenerated (biological recycling).

In general, the following applies: With a maximum economic efficiency of the factors labour and natural resources – from which, as already mentioned, the maximum efficiency of the factor capital results, provided that an appropriate economic policy regulation and control is established – an economy achieves the welfare optimum, i. e. the best possible safeguarding of the future. See also the article Sustainable Social Welfare.

Since the macro-economic (national) efficiency is outside the direct interest of both private and public sector players, it must be regulated and controlled by economic policy according to the above-mentioned definition so as not to undermine the future viability of an economy. More concretely this means: Economic policy regulation and control must be designed such that business production processes generate social returns instead of social costs and preferably cause little or no environmental costs, so that the aggregate of all business efficiencies (business accounts) results in the highest possible macro-economic efficiency (national account). In short, economic policy regulation and control must be directed towards the welfare optimum, that is, towards full employment and environmental protection.

In the case of inadequate or not properly focused economic policy, as is the case under the current neoliberal doctrine, a tendency towards capital dominance and return on investment emerges at the expense of labour and natural resources. This is a development that is not only macro-economically inefficient, but also in terms of business activities in the long term, because it disconnects the development of wages and purchasing power from productivity growth, thereby weakening or even interrupting economic cycles and thus ultimately harming the capital owners as well. The dominance of the factor capital to the detriment of labour and natural resources is always a sure indication of capitalist excesses of the market economy (for more details see the article Excesses of Capitalism).

3. Productivity

Productivity is, as already mentioned, a measure of the economic efficiency of production processes. Data on productivity can refer to a national economy, a sector of the economy, an industry, an individual company or a single product. In any case, productivity data denotes the extent of the contribution of production factors (as input) to produce a certain output of goods or services. The total contribution of all production factors for a productivity calculation is the sum of the contributions of individual factors, each of which is included in the calculation with quantity and price. In the case of a national economy, the gross domestic product (GDP) is the aggregate output that, under neoliberal conditions, allows no conclusion about the national productivity.

In practice, overall productivity is often simply stated as output of goods or services per working hour and is then referred to as »labour productivity«. This calculation basis is both practical and problematic, because it in fact expresses overall productivity, but gives the impression that resulting productivity is determined by labour only. »Labour productivity« therefore does neither say anything about the efficiency of the individual factors, nor about the efficiency of the involved labour. Nevertheless, this productivity calculation is well suited for making comparisons within industry segments. For example, »labour productivity« can be shown for a production plant and is then defined as the output of a certain number of products per working hour at a certain delivery price. When the production plant invests in new, faster machines that produce a higher output of products, the reported »labour productivity« increases accordingly, although the isolated productivity of the workforce has not increased.

3.1 Genuine Productivity Gains

Genuine productivity gains can be achieved when the increase in business productivity at the same time leads to a socially and ecologically sustainable increase in national productivity.

Productivity increases can be achieved by using production factors more efficiently and optimizing production processes, for example

  1. concerning the factor labour, when the training of workers is improved or the workflow is optimized, thus saving working time.
  2. concerning the factor natural resources, when, based on an unchanged output of products, raw material and/or energy consumption is reduced or when raw materials are used more sustainably, that is, when they are damaged as little as possible and/or are efficiently recycled in technological or biological downstream processes, and when energy is increasingly produced from renewable sources.
  3. concerning the factor capital when better or more cost-effective machines are installed, better production processes are introduced or political and legal conditions are improved.

The notable feature of economic productivity is, after all, that it can be continuously enhanced without limit. Until now, mankind has never been deterred from producing as many high-quality products as possible with the least amount of work and resources in aiming to create space and time for its social and cultural needs that go beyond the purely existential. Therefore, no objection can be made against high productivity and the desire to constantly increase it.

However, economies can only be sure not to consume their national wealth, but rather increase it with growing productivity, under the conditions of qualitative growth and progress.

Qualitative growth requires that the cycles of non-renewable and renewable resources are tightly closed, renewable energies increasingly used, and the products produced improved regarding their use and disposal, that is, that they become both more efficient and effective. In the theoretical but desirable state of fully closed cycles of non-renewable and renewable resources and the exclusive use of renewable energies, the quantity of resources deployed for a production process or a product no longer has any influence on factor efficiency and productivity of processes, because no more external costs are caused, always provided that all resources required in an economy can be allocated.

Generally speaking, this is a desirable state in which social conditions within an economy are continuously improved by economic activities, and the condition of the environment stabilized at a high level of quality. In this state, human economic activity is practically freed from its original sin of social and ecological exploitation (see also the article Factors of Production)

3.2 Neoliberal Apparent Productivity

Contrary to the above-mentioned desirable conditions, when determining productivity under the prevailing neoliberal circumstances, it should be noted that most economic activities, as mentioned, cause negative external effects (external costs) such as health impairment or environmental damage, the prices of which are usually not attributed to the production factors and thus erroneously increase the reported total productivity. Under neoliberal conditions, the negative external effects emanating from economic activities have, as a result of declining economic policy control, reached a hitherto unknown magnitude of existential threat to mankind and nature, both in the social sphere – with underemployment, mass unemployment and poverty – and in the ecological sphere – with the exploitation of resources, climate change, species extinction and the threat to the food chain. For further details I recommend the article Economic Externalities.

Since the factor labour causes the highest costs for most productions, it is evident to replace labour with machines, i. e. to automate and rationalize the production processes. With declining economic governance and, as is the case in the current neoliberal economic system, the loss of jobs through automation and rationalization is proving to be an effective way of increasing company productivity, as companies do not have to fear higher labour costs or a reduction in working hours. However, this further widens the gap between increasing apparent business productivities and stagnating or declining real wages, so that purchasing power decreases and, sooner or later, depending on the proportion of export business, will backfire on producers in the form of declining domestic sales. In other words, if wages and working hours are not adapted to productive progress, the dynamics of economic cycles will diminish, because the supply meets a declining demand.

If wages are not raised or weekly working hours are not reduced with increasing productivity, for example as a result of automation, this is always an alarm signal that points to poor economic governance and the decline of social welfare. Countermeasures by means of stepping up export production only have a temporary effect and ultimately lead to extreme unequal distribution and social division. The current development in Germany is an outstanding example of the extreme export bias and its consequences under the prevailing neoliberal conditions.

For the national productivity, the necessity of recording external costs can be demonstrated most vividly using the factor labour as an example: Not only all wages and other remuneration – as the prices for labour – that provide a decent livelihood, must be included in the calculation, but also all state transfer payments that serve to safeguard the livelihood of precarious employees and the unemployed. Transfer payments are the costs incurred – in economic terms – for the damage to the factor labour by precarious employment relationships and unemployment. The higher the percentage of transfer payments of the total price of labour is, and thus also of the total income of the potential working population, the more the labour market is damaged and the greater are the social imbalances, and: the greater is the negative impact on overall economic productivity. In fact, the recording of costs must even be pursued in the future, because social imbalances and distortions entail medium- and long-term follow-up costs – for example through psychosomatic illnesses and drug abuse of the people concerned, through disadvantages for the adolescent generation and through an increase in crime.

When business costs are continuously externalized, the production processes will inexorably move towards their natural end: with social orders dissolving, non-renewable resources dwindling and renewable resources being destroyed. The answer to the frequently asked question of why malnutrition and poverty are propagating worldwide, whilst economic productivities are apparently rising at the same time, is in the short term answered by the fact that systemic unequal distribution is mounting, but in the long term even more profoundly by the systemic distortion of productivity, namely apparent productivity, and the resulting destruction of assets, which sooner or later will backfire on the whole of human society. A fairer distribution of the allegedly neoliberal »wealth«, as is often demanded under the heading »There is enough for all«, does therefore not hold as a sustained solution for combating malnutrition and poverty and for securing the future.

The driving force behind the mounting apparent productivity of the neoliberal system is the striving for expansion of entrepreneurial players, that is flourishing wildly in the neoliberal political vacuum and has found its doctrinaire glorification as a growth paradigm. The oversized production capacity, which is being built up under the constant striving for expansion and the pressure of global competition, is met by declining demand due to the general saturation of the typical neoliberal markets for goods and services in the developed industrialized countries. Demand is further declining due to falling employment as well as stagnating wages and public investment. Global players are trying to counteract the imbalance with innovation and export initiatives, thus aggravating the situation. At the same time, new emerging economies are swamping the export markets and raise the global supply, while the purchasing power in importing industrialized countries continues to go down. In this vicious circle, there is finally only one way to cope with the cost pressure in global competition: the exploitation of social and natural resources. Companies are taking brisk advantage of this option – with political toleration and support – and so the neoliberal house of cards made up of apparent productivity and profits is piled up ever higher, until it will eventually collapse under its own weight.

The extreme neoliberal development exemplifies that the definition of productivity is the key to a sustainable globalization: Instead of deriving productivity from isolated capital efficiency only, it must be socially and ecologically defined, that is, it must fulfil a social and ecological function. That can be achieved by adding the external costs caused by the production processes to the production factors without exception. Thereby the external costs find their way into pricing and create incentives to avoid them. A promising way to redefine productivity leads from the current neoliberal process of concentration of economic capital and power to a process of decentralization, or, more precisely, to a subsidiarization of economic structure and activity, which gets all citizens involved in economic life and directly assigns the responsibility for the human and natural resources of their local and regional environment to them.

4. Prospects

First of all, economic and political insight is required to understand that there can be no abstract productivity that is detached from social and ecological responsibility, that productivity can only be thought of in the context of a humane expediency: namely, to make life consistently more bearable and pleasant. »The economy must serve the people, and not vice versa«, is, not without reason, a well-known truism. This also means that economic cycles must be designed and managed where people live their lives: locally, regionally and nationally. This explains the fact that genuine economic productivity generally increases with the degree of de-centrality or, better still, with the degree of subsidiarity of the production structure, because subsidiarity promotes the involvement, self-determination and responsibility of all economic players. Subsidiarity means qualified decentralization and represents a hierarchy of production technology: That is, the demand for capital and technology increases towards the upper levels and the intensity of labour decreases accordingly, resulting in comprehensive economic diversity at the lower, labour-intensive levels, complemented by demanding, capital-intensive productions at selected central locations (see also the articles Economic Subsidiarity and Scale Economies and Productivity).

Undivided local responsibility is the starting point for real productivity and real added value and the guarantee that the productive population places progress at the service of their fellow humans and their natural environment. The decentralized responsibility naturally includes the decisive condition that costs may not be transferred (externalized) without mutual consent from home locations of economic activity to foreign locations. Therefore, with decentralization or subsidiarity as such, an »automatic« inherent barrier against arbitrary relocation (externalization) of economic costs is already being created. In addition to this inherence, however, legal and fiscal measures are required which, in accordance with the »polluter pays principle«, create obligations and incentives to avoid external costs caused by economic processes to the greatest extent possible based on state-of-the-art technology. Costs initially considered unavoidable must be included (internalized) in the business balance sheets and national accounts in order to document and combat them.

The small-scale economic cycles within subsidiary structures ensure that economic players can directly perceive the consequences of their activities and can be motivated for mutual commitment and community spirit. Thus, social progress is induced, supplemented by measures that allow dependent employees to participate appropriately in the fruits of their labour. Their participation can be secured, for example, by reducing weekly working hours and raising wages at the same time as productivity grows, supplemented by a proportionate return on investment, all regulated by labour law and collective bargaining laws. This combination of measures gurantees that the number of jobs required for full employment is maintained in the course of technological progress, that labour demand and supply can be very flexibly adapted, that all employees can contribute to progress and the development of a better world, and that economic cycles are kept going by a constantly optimal distribution of income, thus ensuring optimal welfare.

Intact decentralized economic cycles that interact across all levels of production are indispensable as a foundation for a sustainable, post-neoliberal economic globalization

The practical building of domestic subsidiary economic structures under the conditions of the neoliberal globalisation as an initial measure on the road to a post-neoliberal economic order is described in the article Building Subsidiary Economic Structures.

Click here for the German-language version: Effizienz und Produktivität

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