Total factor productivity
Encyclopedia
In economics
, total-factor productivity (TFP) is a variable which accounts for effects in total output
not caused by inputs. If all inputs are accounted for, then total factor productivity (TFP) can be taken as a measure of an economy’s long-term technological change or technological dynamism.
If all inputs are not accounted for, then TFP may also reflect omitted inputs. For example, a year with unusually good weather will tend to have higher output, because bad weather hinders agricultural output. If a variable like the weather is not considered as an input, then weather will be included in the measure of total-factor productivity.
TFP can not be measured directly. Instead it is a residual, often called the Solow residual
, which accounts for effects in total output
not caused by inputs.
The equation below (in Cobb–Douglas form) represents total output (Y) as a function of total-factor productivity (A), capital input (K), labor input (L), and the two inputs' respective shares of output (α and β are the capital input share of contribution for K and L respectively). An increase in either A, K or L will lead to an increase in output. While capital and labor input are tangible, total-factor productivity appears to be more intangible as it can range from technology to knowledge of worker (human capital).
Technology Growth and Efficiency are regarded as two of the biggest sub-sections of Total Factor Productivity, the former possessing "special" inherent features such as positive externalities and non-rivalness which enhance its position as a driver of economic growth.
Total Factor Productivity is often seen as the real driver of growth within an economy and studies reveal that whilst labour and investment are important contributors, Total Factor Productivity may account for up to 60% of growth within economies.
exercises and Total Factor Productivity are open to the Cambridge Critique. Therefore, some economists believe that the method and its results are invalid.
On the basis of dimensional analysis
, TFP is criticized as not having meaningful units of measurement
. The units of the quantities in the Cobb–Douglas equation are:
The units of A do not admit a simple economic interpretation, and the concept of TFP is accordingly criticized as a modeling artifact.
attempted to correct for weaknesses in estimations of the labour component of the equation, by refining estimates of the quality of labour. Specifically, years of schooling is often taken as a proxy for the quality of labour (and stock of human capital), which does not account for differences in schooling between countries. Using these re-estimations, the contribution of TFP was substantially lower.
Robert Ayres and Benjamin Warr have found that the model can be improved by using the efficiency of electrical generation, which roughly tracks technological progress.
Economics
Economics is the social science that analyzes the production, distribution, and consumption of goods and services. The term economics comes from the Ancient Greek from + , hence "rules of the house"...
, total-factor productivity (TFP) is a variable which accounts for effects in total output
Output (economics)
Output in economics is the "quantity of goods or services produced in a given time period, by a firm, industry, or country," whether consumed or used for further production.The concept of national output is absolutely essential in the field of macroeconomics...
not caused by inputs. If all inputs are accounted for, then total factor productivity (TFP) can be taken as a measure of an economy’s long-term technological change or technological dynamism.
If all inputs are not accounted for, then TFP may also reflect omitted inputs. For example, a year with unusually good weather will tend to have higher output, because bad weather hinders agricultural output. If a variable like the weather is not considered as an input, then weather will be included in the measure of total-factor productivity.
TFP can not be measured directly. Instead it is a residual, often called the Solow residual
Solow residual
The Solow residual is a number describing empirical productivity growth in an economy from year to year and decade to decade. Robert Solow defined rising productivity as rising output with constant capital and labor input...
, which accounts for effects in total output
Output (economics)
Output in economics is the "quantity of goods or services produced in a given time period, by a firm, industry, or country," whether consumed or used for further production.The concept of national output is absolutely essential in the field of macroeconomics...
not caused by inputs.
The equation below (in Cobb–Douglas form) represents total output (Y) as a function of total-factor productivity (A), capital input (K), labor input (L), and the two inputs' respective shares of output (α and β are the capital input share of contribution for K and L respectively). An increase in either A, K or L will lead to an increase in output. While capital and labor input are tangible, total-factor productivity appears to be more intangible as it can range from technology to knowledge of worker (human capital).
Technology Growth and Efficiency are regarded as two of the biggest sub-sections of Total Factor Productivity, the former possessing "special" inherent features such as positive externalities and non-rivalness which enhance its position as a driver of economic growth.
Total Factor Productivity is often seen as the real driver of growth within an economy and studies reveal that whilst labour and investment are important contributors, Total Factor Productivity may account for up to 60% of growth within economies.
Criticism
Growth accountingGrowth accounting
Growth accounting is a procedure used in economics to measure the contribution of different factors to economic growth and to indirectly compute the rate of technological progress, measured as a residual, in an economy...
exercises and Total Factor Productivity are open to the Cambridge Critique. Therefore, some economists believe that the method and its results are invalid.
On the basis of dimensional analysis
Dimensional analysis
In physics and all science, dimensional analysis is a tool to find or check relations among physical quantities by using their dimensions. The dimension of a physical quantity is the combination of the basic physical dimensions which describe it; for example, speed has the dimension length per...
, TFP is criticized as not having meaningful units of measurement
Units of measurement
A unit of measurement is a definite magnitude of a physical quantity, defined and adopted by convention and/or by law, that is used as a standard for measurement of the same physical quantity. Any other value of the physical quantity can be expressed as a simple multiple of the unit of...
. The units of the quantities in the Cobb–Douglas equation are:
- Y: widgets/year (wid/yr)
- L: man-hours/year (manhr/yr)
- K: capital-hours/year (caphr/yr; this raises issues of heterogeneous capital)
- α, β: pure numbers (non-dimensional), due to being exponents
- A: (widgets * yearα + β – 1)/(caphrα * manhrβ), a balancing quantity, which is TFP.
The units of A do not admit a simple economic interpretation, and the concept of TFP is accordingly criticized as a modeling artifact.
Estimation
As a residual, TFP is also dependent on estimates of the other components. A 2005 study on human capitalHuman capital
Human capitalis the stock of competencies, knowledge and personality attributes embodied in the ability to perform labor so as to produce economic value. It is the attributes gained by a worker through education and experience...
attempted to correct for weaknesses in estimations of the labour component of the equation, by refining estimates of the quality of labour. Specifically, years of schooling is often taken as a proxy for the quality of labour (and stock of human capital), which does not account for differences in schooling between countries. Using these re-estimations, the contribution of TFP was substantially lower.
Robert Ayres and Benjamin Warr have found that the model can be improved by using the efficiency of electrical generation, which roughly tracks technological progress.
See also
- Solow residualSolow residualThe Solow residual is a number describing empirical productivity growth in an economy from year to year and decade to decade. Robert Solow defined rising productivity as rising output with constant capital and labor input...
- Multifactor productivityMultifactor productivityMultifactor productivity measures the changes in output per unit of combined inputs. In the United States, Indices of MFP are produced for the private business, private nonfarm business, and manufacturing sectors of the economy...
- Productivity modelProductivity modelProductivity in economics is the ratio of what is produced to what is required to produce. Productivity is the measure on production efficiency. Productivity model is a measurement method which is used in practice for measuring productivity...
- Useful work growth theoryUseful work growth theoryThe Useful work growth theory, also called the Ayres-Warr model, states that physical and chemical work performed by energy, or more correctly exergy, has historically been the most important driver of economic growth...