GVA, productivity, and income are all ways of measuring local economic performance. This briefing will help local policymakers understand how to think about the GVA, productivity, and income performance of their local area and develop appropriate policies.
This briefing is part of a series that provides guidance to help policymakers think about local economic performance. It overviews key economic concepts and provides guidance on data and analysis.
What is GVA?
The amount of goods and services produced in an economy is referred to as an economy’s ‘output’. Gross Value Added (GVA) is a way of measuring this output.
GVA is defined as the value of the goods and services produced minus the value of the intermediate inputs that were used to produce those goods and services. It can be calculated for businesses, sectors, local, and national economies. Using a simple example, the added value of a bakery is the value of the bread, biscuits, and cakes it sells minus the cost of the ingredients (flour, butter, sugar, etc.) and equipment (mixers, ovens, etc.) it uses to produce these.
Subtracting the value of intermediate inputs avoids double-counting and provides the value of output that can be shared out between workers and owners. In the context of local growth, it also helps ensure economic output is allocated across all local areas that contribute, not just the area that produces the end product.
At the local level, GVA is determined by the number of workers and productivity per worker.
Local GVA = Number of workers x Productivity per worker
The number of workers – Only people in employment (either as an employee or working for themselves) contribute to the production of goods and services that are included in GVA. The number of workers partly depends on the number of people living in an area and how many of them work (the employment rate). The employment rate will depend on:
- Population structure. For example, older people are less likely to work than younger people. This means less workers in areas with a large proportion of retirees, such as Cornwall or Cumbria.
- Demand for labour. If demand is weak, people who wish to work may not find a job, meaning the employment rates and the number of workers is lower than would otherwise be the case.
- How attractive employment is compared to other options. For example, if childcare costs are high, this may discourage parents from working.
The number of workers also depends on commuting. GVA is the output of workplaces within a local area. It includes the output of local residents who also work within the local area and the output of workers who commute into the area from elsewhere. The output of residents that work outside the area is not included. More information on number of workers is available in our guide to understanding skills performance.
Productivity per worker – The higher the value of the goods and services produced by the average worker in an area, the higher the GVA. Productivity is discussed in more detail below.
What is productivity?
Productivity measures how efficiently inputs are converted into outputs. For example, when buying a car, an important consideration for most consumers is the productivity of the engine measured, for example, by ‘miles per gallon’, the ratio between output (miles) and input (gallons of fuel).
When measuring economic productivity, the outputs are the goods and services produced (normally measured using GVA) and the inputs are the ‘factors of production’ – the human capital (labour and skills), physical capital (such as buildings and machines), and intangible capital (such as design, branding, research and development (R&D), and software) used to produce these goods and services. As high-value tradeable service sectors have become more important to the UK economy, skills and intangibles have become more significant drivers of productivity.
Anything that increases the amount of capital per worker (human, physical or intangible capital) will increase output per worker. Organisational change and innovation can improve the efficiency with which all inputs are used and increase overall productivity (of all inputs). Examples include:
- Upskilling workers.
- Increasing the amount of machinery or technology available to each worker.
- Purchasing new, more efficient machinery or technology.
- Improving the motivation of managers and workers.
- Improving how work is organised.
- Developing new higher-value goods and services that can be produced using existing inputs.
Productivity can also be increased through increases in public capital as a result of public investment, for example, into transport infrastructure or R&D.
What is income?
Income is the money received by an individual or household in a given period of time (for example, a week, month or year) including wages, income from self-employment, investment income, pensions, and benefits.
Some elements of income reflect the performance of the local economy such as wages of local residents employed in the area and profits accruing to owners of local businesses. Other elements of income are less strongly linked to the local economy. For example, local residents may work or own businesses outside of the local area or may draw income from other assets. National policy decisions such as state pension, benefit, and national living wage rates also affect income levels.
As wages, which depend on local productivity, are only one component of income and benefits and the national living wage are set nationally, there is generally less variation in incomes between areas than in GVA and productivity.
Why is productivity important for local economic performance?
Higher productivity tends to mean higher wages. All else equal, if for every hour worked a worker produces goods or services worth £100, their employer can pay them more than if what they produce is worth £20. However, the relationship between productivity and wages is complicated by the fact that money from selling outputs has to be shared across all inputs. If the worker producing higher output per hour is using more technology or machinery or is producing a good that required extensive R&D to develop, then money must also go to those inputs leaving less money for wages.
As wages are an important source of income, higher productivity also tends to mean higher incomes. The link between incomes and productivity at the local level is complicated by the fact that some workers commute across areas (so their income depends on the productivity where they work) and owners of other inputs (for example, owners of commercial buildings rented by local businesses) may live in areas different to where the input is used.
Productivity is key for growth and long-term prosperity. Higher productivity means more output is produced for a given set of inputs and it encourages people to invest in skills, helps businesses win business, and supports investment in capital and innovation. These feedback loops help explain why some areas grow while others do not. In a market economy, competition between businesses is an important way in which inputs get put to more productive use. If there are two businesses producing the same good, but one can produce it with less inputs (for example, it takes two hours of staff time to produce rather than three), then this business will be able to make more profit, while charging less for the good than the other business, and consumers will switch to the lower cost supplier. Ultimately, this can lead to the less productive business going out of business or having to downsize, with the loss of jobs. At an economy level, having productive businesses helps ensure existing jobs are sustained and new jobs are created.
Understanding local performance
The briefing provides a guide to understanding key elements of local performance including:
- Overall position
- GVA
- Productivity
- Income
- Sectoral analysis.
For each topic, important considerations, including what might affect performance, are set out, alongside suggested datasets and measures, example analysis, and policy implications.
