What is productivity?

You probably know that the amount of work you can get done in one day is your rate of productivity. Productivity in economics is determined in pretty much the same way. But for companies and even countries, measuring productivity is more complex than how fast you cleared your inbox today.

On a country scale, productivity can mean the difference between good and not-so-good standards of living. The only way people in a country can achieve a higher standard of living is through productivity growth. For a company, productivity can determine whether it can afford to increase wages for its employees or even if it can continue operating. Stagnating or contracting productivity can spell serious trouble ahead for individuals, organizations, and nations alike.

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Acha Leke is a senior partner in McKinsey’s Johannesburg office; Alex Singla and Asutosh Padhi are senior partners in the Chicago office; Alexander Sukharevsky and Kate Smaje are senior partners in the London office; Andrés Cadena is a senior partner in the Bogotá office; Chris Bradley is a director of the McKinsey Global Institute (MGI) and a senior partner in the Sydney office; Gautam Kumra is a senior partner in the Singapore office; Guillaume Dagorret is an associate partner in the Paris office; Jan Mischke is an MGI partner and is based in the Zurich office; Kartik Jayaram is a senior partner in the Nairobi office; Kweilin Ellingrud is a director of MGI and a senior partner in the Minneapolis office; Lareina Yee and Olivia White, both directors of MGI, are senior partners in the Bay Area office, where Charles Atkins is a partner; Marc Canal is an MGI senior fellow and is based in the Barcelona office; Massimo Giordano is a senior partner in the Milan office; Nick Leung is an MGI director and senior partner in the Hong Kong office; Solveigh Hieronimus is a senior partner in the Munich office; and Sven Smit is chair of MGI and a senior partner in the Amsterdam office.

To either maintain or increase productivity, we first need to understand what it is and how it works. Here, we’ll take a deep dive into the theory and practice of productivity.

Explore “What is economic growth?” from McKinsey Explainers for even more on macroeconomics and growth, and where productivity fits into the bigger picture.

How is productivity calculated?

In the simplest terms, productivity is a measure of output relative to input. The most common productivity measure is labor productivity, defined as economic output (gross domestic product, or GDP) per hour worked. Labor productivity is typically the biggest determinant of both economic and wage growth in the long term. And over time, labor productivity and real wages are closely—though not fully—linked.

At the country level, labor productivity is frequently calculated as a ratio of GDP per total hours worked. So if a country’s GDP were $1 trillion and its people worked 20 billion hours to create that value, the country’s labor productivity would be $50 per hour. At the level of individual firms, for which there is less available data, it can also be measured as gross value added (that is, revenue minus nonlabor expenses, such as materials and supplies and rent payments) divided by the number of employees. Labor productivity growth is crucial for achieving increased wages and higher standards of living, and it helps to increase consumers’ purchasing power.

What is productivity in economics?

Apart from labor productivity, economists measure other types of productivity, too. Capital productivity is a measure of how well physical capital—such as real estate, equipment, and inventory—is used to generate output such as goods and services. (Capital productivity and labor productivity are frequently considered together as an indicator of a country’s overall standard of living.) Total factor productivity is the portion of growth in output that’s not explained by growth in either labor or capital. This type of productivity is sometimes called “innovation-led growth.”

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Is productivity accelerating or slowing down?

The past 25 years or so have been a major success story for global productivity. During this period, median economy productivity has jumped sixfold. These gains have been largely driven by China and India: From 1997 to 2022, China’s output increased from $6,000 per worker to $40,000. Thirty emerging economies, home to 3.6 billion people, are in the fast lane of improvement; if they maintain this pace of growth, their productivity levels will converge with those of advanced economies within about 25 years.

But despite this meteoric growth in some economies, overall productivity growth has slowed since the global financial crisis of 2008. In the United States and Western Europe, labor productivity growth has been declining since a boom in the 1960s.

Two factors account for a productivity slowdown in these regions, as well as in Japan and other advanced economies. First, in the lead-up to the 2008 global financial crisis, manufacturing—primarily in the electronics industry—experienced waves of productivity advances that have slowly faded in the years since. Second, since the 2008 crisis, there has been an overall decline in capital investment across multiple sectors, likely due to a decrease in demand and ongoing macroeconomic uncertainty.

What impact can one company have on an entire economy?

The latest McKinsey Global Institute (MGI) research on productivity finds that a small number of firms contribute to the lion’s share of productivity growth. In our sample of 8,300 large firms in Germany, the United Kingdom, and the United States, fewer than 100 productivity “standouts” account for two-thirds of growth. To be sure, many other companies play a role, with the majority of them contributing positively to growth. But the finding that productivity growth is extremely concentrated and driven by a few extraordinary firms, rather than by the collective incremental improvements of many, counters much prevailing wisdom about productivity. Indeed, an individual standout can move the productivity needle for entire economies—that’s the “power of one.” For instance, in Germany, if there had been 19 more companies with the same productivity contribution as one retailer in our sample, the German economy’s productivity growth would have more than doubled in that period.

The standout firms include household names such as Apple, Amazon, Home Depot, and United Airlines in the United States; EasyJet and Tesco in the United Kingdom; and REWE, Zalando, and Zeiss in Germany.

What do the firms that contribute most to national productivity growth have in common?

The standouts are diverse but share one trait: They all increased their productivity by making one or more of five strategic moves, often in combination. Only one move is focused on efficiency and cost, while the other four focus on creating and scaling superior value propositions and business models—all of which suggest that the future of productivity growth lies not in imitation but in bold reinvention.

The strategic moves are:

Scaling more productive business models or technologies. For example, Apple shaped the mobile internet adoption wave, Amazon revolutionized e-commerce, Zalando scaled apparel e-commerce, and EasyJet helped set the low-cost carrier trend.
Shifting regional and product portfolios toward the most productive businesses. This strategy can include doubling down on product lines that have higher customer value relative to the hours needed. For example, Nissan expanded its sedan EV offerings, General Motors exited unprofitable markets, and Amazon ventured into cloud computing with Amazon Web Services (AWS).
Reshaping customer value propositions to increase revenue and value added. This strategy—which companies often deploy in response to trends or competitive attacks—can work in both high-end niche segments and mass markets. Examples include Home Depot improving its in-store and online customer experience by expanding inventory, as well as integrating online buying and in-store pickups, and Delta and American Airlines providing distinct value propositions to loyalty customers.
Building scale and network effects. For example, Amazon has managed to offer more for less by scaling its fulfillment capabilities, making its offerings available to more shoppers and partner retailers. Logistics group Hapag-Lloyd did the same through acquisitions and geographic expansion.
Transforming operations to raise labor efficiency and reduce external cost at scale. For example, UK supermarket chain Tesco enacted a multibillion-pound cost-reduction program, and EasyJet modernized its fleet to reduce operating costs.

When standout firms deploy bold strategies, their moves often trigger chain reactions that lead to bursts—rather than the broad diffusion—of productivity in specific periods and sectors, much like a string of fireworks igniting.

Why is productivity so important?

Increased productivity is needed if we are to meet the dual existential challenges of the 21st century: closing the empowerment gap and achieving net zero. According to MGI research, closing these gaps will require the equivalent of 8 percent of global GDP growth annually, which will be very hard to achieve without rapid productivity gains.

What’s more, the unprecedented economic growth of the past few decades—during which the world economy expanded sixfold and average per capita income almost tripled—will slow dramatically if productivity doesn’t improve. That’s because population growth is slowing, which means the size of the labor force is shrinking relative to the overall population. If there are fewer overall workers contributing to the economy, each worker’s productivity will have to increase for GDP growth to stay on track.

MGI research on the future of productivity and growth after COVID-19, which focused on Europe and the United States, found that companies’ responses to the pandemic could exacerbate long-run structural drags on demand. It’s notable that about 60 percent of estimated productivity potential comes from companies prioritizing efficiency over output growth—through automation, for instance. If productivity gains aren’t reinvested in growth that creates jobs and raises incomes, the risk of widening the inequality gap grows. A fast and comprehensive approach to reskilling is key to avoiding this outcome, to help people whose jobs have been automated move on to another job or career quickly. If that new job is more productive than the last one—which is often the case—that worker is turning a “threat” (the lost job) into an opportunity and boosting productivity for themselves and for the broader economy.

How can labor productivity be increased?

Two factors typically drive labor productivity. The first is the amount of capital per worker. Capital can be something tangible, such as machines or infrastructure, or intangible, such as software. For example, an office worker is more productive with a laptop than without one, and a construction worker is more productive with a crane. The second factor is human capital: the education, abilities, and accumulated experience of working people.

Investment, both public and private, is critical for productivity growth. Higher investment is associated with greater output, lower inflation, and lower poverty rates and inequality. Indeed, growth in capital per worker accounted for about 80 percent of productivity growth in most emerging regions over the past 25 years. Policy can help set strong and stable incentives for private investments that enable growth.

Looking ahead, digitization and other technological advances could add up to one percentage point to annual productivity growth in advanced economies. And the early adoption of advances such as gen AI could add more than half a percentage point across advanced economies—and several emerging economies, too. There are signs that AI applications could boost productivity faster than previous technologies have. Several proven productivity-enhancing use cases have already emerged, including software engineering for corporate IT and product development, sales, marketing, customer operations, and product R&D.

How can AI tools catalyze productivity?

The point of technology is to help us get things done faster and with less effort. This, in turn, means giving more to consumers for less, which leads to increasing social welfare. You might assume, therefore, that increased technological innovation would mean increased productivity. That’s exactly what happened in the 1990s, when a revolution in information and communications technology sparked a boom in productivity.

That hasn’t been the case more recently, though: Technology has continued to advance, but productivity growth remains sluggish. According to MGI analysis, this disconnect is the result of three waves that collided in the aftermath of the 2008 financial crisis: the waning of the 1990s productivity boom; the financial crisis’s aftereffects, including weak demand and uncertainty; and digitization, which culminated in the explosion of gen AI tools beginning in late 2022.

McKinsey estimates that gen AI’s impact on productivity could add trillions of dollars in value to the global economy—up to $4.4 trillion annually across 63 use cases we analyzed. Around 75 percent of that value would fall across four areas: customer operations, marketing and sales, software engineering, and R&D. But to achieve the labor productivity boost that gen AI makes possible—to the tune of up to 0.6 percent annually through 2040—organizations will need to rapidly adopt the technology and efficiently redeploy workers’ time to other activities.

What is the productivity outlook by region?

The projected productivity outlook for different regions around the world includes the following:

Europe. Europe currently leads the world in sustainability and inclusion: European countries are global leaders in reducing carbon emissions and boast the lowest income inequality and highest life expectancy. In the years ahead, Europe’s challenge will be to bolster the growth part of the equation. At present, European corporations lag behind their American counterparts on both scale and performance. Recent events have also exposed new frailties, including Europe’s energy import dependencies and its supply chains’ sensitivity to geopolitical conflicts. To boost growth, European companies could aim to increase their R&D budgets with the goal of winning a share in new areas of competition, such as autonomous driving or AI in healthcare. European policymakers could also take steps to diversify energy sources and strengthen supply chains.
Africa. Despite a few years of sluggish growth, Africa’s rich natural resources and young and growing population provide opportunities to establish productivity as the foundation of its economic growth in the 21st century and beyond. Certain African countries, cities, sectors, and companies have charted a course toward productivity that others can use as a guide. Increasing digitization, developing talent, accelerating regional collaboration, supporting more business champions, and building more green businesses are some of the ways that African stakeholders can increase productivity.
Latin America. Between 2000 and 2019, new entrants to the workforce accounted for approximately 75 percent of Latin America’s GDP growth, while productivity gains accounted for the other 25 percent. But demographics are changing. Without productivity growth, Latin America’s aging population could trigger a regional slowdown. Investment and innovation could raise productivity, boost private and public income, and build capital to enable further growth.
Asia. The Asian economies with the highest productivity are the rapidly aging societies of the Pacific Rim. By 2050, up to 34 percent of the populations of high-productivity parts of Asia, including China, Hong Kong, Japan, Singapore, and South Korea, will be elderly. To avoid a slowdown and to lift more Asians out of poverty, Asian stakeholders will need to shift value chains and significantly boost productivity, including through automation.

India has serious growth aspirations in the coming decades, including the creation of 600 million jobs, a sixfold increase in income to over $12,000 per capita, and the growth of GDP to $19 trillion. Between 2012 and 2022, one in every five Indian companies was able to double its revenue every five years and quadruple it in ten. This extraordinary company-level growth has the potential to catalyze the country’s GDP growth.
The United States. Since 2005, US labor productivity has grown at a lackluster rate of 1.4 percent. More recently, the United States has seen an uptick in productivity growth, although it’s too soon to say whether this trend will have staying power over the long term. Regaining a long-term productivity growth rate of 2.2 percent annually could mean a $10 trillion increase in US GDP by 2030. To achieve that level of productivity gains requires unlocking the power of existing technology, investing in intangibles, improving workforce reskilling and labor mobility, and implementing place-based approaches tuned to the country’s specific geographies.

For a more in-depth exploration of these topics, see McKinsey’s Productivity and Prosperity collection. Learn more about the McKinsey Global Institute—and check out job opportunities with the McKinsey Global Institute if you’re interested in working at McKinsey.

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