Total Factor Productivity (TFP) And Solow Residual

Aims and Objectives of TFP

Total factor productivity (TFP) is that portion of output which is not determined by the amount of input used at the time of production. Definition of TFP states the importance of TFP in growth, fluctuations, and development. TFP is defined as that portion of output which is not defined by the amount of input used in the production, and level of TFP is determined by the efficient utilization of inputs in the production.

From last few decades, growth in Singapore was very low, even though educational aspect of the population was increased, investments related to research and development was increased, and there was rise in the capital inflows. However, concept of TFP is unique in the Singapore. As per one study, growth in Hong Kong and other small open economy are higher as compared to Singapore. For solving this issue in this paper we calculate the TFP growth in Singapore and other countries also.

In this paper, definition of TFP & Solow residual, aims and objectives of TFP, background of TFP & Solow residual,  difference of A v/s K & L, examples related to importance of A and reasons of failing of K & L, and some idea related to Paul Krugman articles are also stated in this paper. Lastly, paper is concluded with brief conclusion.

The main objective of TFP is to measure the productivity growth for the purpose of judging the development trend of the units of production. Measurement of TFP is considered important for any country for the purpose of understand the growth of the economy.  It must be noted that study related to productivity is conducted on whole economy or on any particular regions of the country. For measuring the growth, experts used accounting technique or index members and even some distance functions. Following are some other aims of TFP and these aims and objectives are stated below:

• TFP helps in promoting the viable food production and it also focus on agriculture income, agricultural productivity, and price stability.
• TFP helps in managing the natural resources and climate action, and it also focus on greenhouse gas emissions, biodiversity, soil, and water.
• TFP also helps in balancing the territorial development with focus on rural employment, growth and poverty in rural areas.  

It must be noted that TFP growth is considered as difference between the growth of output and growth of a combination of all factor inputs, generally labor and capital. Generally, any improvement in TFP reflects the contribution related to output because of the efficient use of resources or the adoption of new technology. In Singapore, this approach is used to calculate the growth for the purpose of employing a production function for decomposing growth in output into the contributions of primary resources. A weightage scheme is employed that allowed to aggregate the contributions related to primary factors. Then difference between the actual GDP growth and portion accounted by the factors of production is considered to measure the TFP growth. Like maximum literatures, Singapore assuming the transcendental logarithmic production functions.

The Solow Residual:

Under this, exercise related to growth accounting is considered for the purpose of break down the growth of output into the growth of factors of production such as capital and labor, and it also consider the growth of efficiency for utilizing these factors. Measurement of this efficiency is considered as Total Factor Productivity. For policy purposes it is considered that whether growth of output is increased from factor accumulation or from increases in TFP. Concept related to growth accounting was set up by Robert M. Solow (1957), and he considered it a neoclassical production function and stated:

Background of TFP and Solow Residual

As peer this formula where  is considered as output, is determined as the stock of physical capital,  is the labor force and  represents the TFP, which actually state the Hicks neutral way. After making some transformations, this equation is considered in the terms of the growth rates related to these variables.

TFP is also known as multi-factor productivity, and it is a variable which used to calculate total output growth in relation to the growth measured traditionally of the inputs of labor and capital of the company. However, TFP is calculated by dividing the output from the weighted average of labor and capital input, and for the purpose of calculating TFP standard weightage was considered 0.7 for labor and 0.3 for capital. In case all inputs are accounted, then TFP can be taken as measure related to long term technological change or technological dynamism in economy.

It must be noted that TFP growth is considered as difference between the growth of output and the growth of the combination of all factor inputs generally related to labor and capital. Generally, TFP reflects the contribution in output because of the more efficient use of resources or also as the adoption of new production technologies.  

In Singapore, this approach is used to estimate the TFP growth for the purpose of employ a production function to first decompose growth in output into the contribution of primary resources such as labor and capital. In this weighted scheme is applied for the purpose of aggregating the primary factors, and difference between the real GDP growth and factors of production is determined for the purpose of calculating TFP.

After conducting various researches Paul Krugman stated that all technological changes are TFP, but current controversy that is technological change versus factor inputs stated that it is not substantial but it is largely matter of data and definitional or conceptual problems. Therefore, it is stated that conclusion of assumption of Paul Krugman is most probably wrong.

Krugman further believes that rates related to Economic growth of Asian countries will taper off significantly, well before convergence with today’s world economic leaders. Three factors are introduced by Krugman which result in the rapid growth in the Asian NICs. First is the transition of labor from rural to industrial, second states the education of these workers, and third factor which contributes is the catching-up effect in the capital stock. Krugman state the argument related to critical lacking, which is ability to done innovation in technology. Krugman state the growth accounting in following format:

Economic Growth = Increases in Labor + Increases in Capital + Changes in Total Factor Productivity

It is not possible to directly measure the TFP. However, it is the approach which is used for considering the effect on total output which is not caused by inputs. In the production function identified by Cobb-Douglas, variable A denotes the total Factor productivity:

Y=AKαLβ

In the above stated equation, total output is represented by Y, capital input is denoted by K, and Labor input is represented by L. alpha and beta in above equation are the two inputs respective shares of output. Any increment in K & L will increase the output, but because of the law of diminishing return increase in use of inputs will not increase output in long run. Therefore, quantity of input used in production does not completely determine the amount related to output produced. It is also important how factors of production are effectively used. It must be noted that TFP is less tangible as compared to capital and labor inputs, and it also include other factors also such as technology to human capital for the purpose of organizational technology.

The Solow Residual

TFP can also be used for the purpose of measuring competitiveness, and if TFP of any country is higher than it denotes higher competitiveness. Generally, it is considered as main vehicles for the purpose of driving economic growth, and if Singapore increases its TFP then it can give higher output from the same resources and also drive economic growth (OECD, 1997).

TFP is used superiorly for the purpose of growth, and solving issues related to growth and productivity. Effect of TFP was examined by Thirtle, Lin and Piesse (2003) on the incidence related to poverty in LDCs, and measured on the basis of percentage of population who are surviving on less than US $ 1 per day. Analysis related to employees regression shows that growth related to agricultural productivity and how it substantially affect the reduction related to poverty, whereas production growth related to industry does not. They use their empirical findings to show that investment in agriculture R&D substantially affects the poverty reduction in Singapore, and it is also considered as extremely profitable investment.

In China, economic growth was rapid but growth related to productivity was slow, but with passage of time such as in 2002-2007 not only economic growth but productivity growth was also rapid. However, it must be noted that this growth is slower as compared to growth of Japan.

After assessing the TFP growth in China related to sustainability development it was found out that China's 8.9-percent annual GDP growth over the period 1980–2012.

The two biggest subsection of TFP are technology growth and efficiency. Technology growth includes some special features such as positive externalities and non-rivalness which increase its position as driver of economic growth. TFP is generally considered as real driver of growth in the economy, and this study reveal that labor and capital are important contributors but as compared to other factors these factors contribute less in sustainable growth of the economy. Therefore, it is clear from the above facts that there is strong connection between the TFP and conversion efficiency, because of which K & L are less effective.

As per the results of one study, Singapore provide supports to the view that physical capital accumulation has been the dominant factor in the country per capita output growth. On the other hand, results related to japan and china shows TFPG contribution is not negligible specially the factors K & L.

Conclusion:

In this paper, definition of TFP is considered and also we outline the methodology related to TFP in Singapore, and it must be noted that this methodology is based on approach related to growth-accounting which means improvement related to quality of factor inputs which was weak in early periods of 90s. However, this paper also concluded that pattern related to TFP growth in Singapore required some changes, as it becomes robust day by day. In this paper TFP growth was computed without making any adjustments in the quality related to factor inputs. Therefore, in future, it is necessary to determine the TFP growth by removing the effects of change in factor input quality. These quality changes are important in case of Singapore such as by raising the attainment of labor force.

References:

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