Does distance matter? The effect of geographic isolation on productivity levels

Over the past 50 years, Australia has maintained a labour productivity level of around 80 per cent of that of the United States. To explain this gap, there is growing interest in the hindrances that might be imposed by Australia's geographic isolation. If the level of labour productivity is constrained by geographic isolation, then the scope to close the productivity gap with the United States is less than previously thought. This paper provides an initial investigation of the link between distance and labour productivity levels. Parameters of a simple labour productivity equation are estimated for the states of the United States of America and Australia. This equation includes an indicator that captures, for each state, the economic size of the state, the state's proximity to other states and the economic size of those other states. The regressions find that this indicator is a significant determinant of state productivity levels and that Australia's isolation from world economic activity accounts for around 45 per cent of the gap in labour productivity between Australia and the United States.