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Saturday, March 31, 2007

The Recent Decline in Productivity Growth

Is the recent slowdown in productivity growth permanent? Maybe, but let's hope not:

Productivity Lull Might Signal Growth Is Easing, by Greg Ip, WSJ: The U.S. productivity boom that began in the mid-1990s is showing signs of running out of steam. If it proves more than a temporary lull, slower growth in productivity -- that is, output per hour worked -- could lead to slower growth in living standards, more difficultly paying for the baby boomers' retirements and a greater risk of inflation. ...

Official measures have slowed since the late 1990s, when an acceleration in productivity growth made possible faster growth, lower unemployment, lower inflation and lower interest rates. It fueled a boom in business investment and stock prices. Today, in contrast, productivity growth has slowed, business investment has turned down and inflation is proving stubborn.

"All the elements of the good years of the '90s have now turned around," said Robert Gordon, an economist at Northwestern University...

Productivity and labor-force growth establish how fast the economy can grow without fueling inflation. ... So the outlook for productivity growth is crucial... The Fed itself is optimistic. "Underlying productivity trends appear generally favorable, despite the recent slowing," Mr. Bernanke told Congress this past week. Three Fed staff economists recently released a study that concluded productivity would grow more slowly than it has for the past decade, but still faster than the two disappointing decades before that. ...

One possibility is that this sort of slowdown is normal at this stage of the expansion, now in its sixth year. When the economy first emerges from recession, businesses expand production with the same number of workers so productivity surges. As the expansion matures, firms often hire in anticipation of future sales, slowing productivity growth.

But Ken Matheny, an economist at Macroeconomic Advisers, a St. Louis forecasting firm, says the recent slowdown is "not primarily cyclical." ... Mr. Matheny blames this slowing in part on the capital-spending drought that followed the 2001 technology-investment bust. That left the growing work force with less equipment to work with, hindering productivity growth.

A more controversial debate is whether technology is losing its productivity impact. The new Fed staff study offers some evidence that it has. The research, by productivity specialists Stephen Oliner and Daniel Sichel of the Federal Reserve Board and Kevin Stiroh of the Federal Reserve Bank of New York, ... attributes most of the 1995-2000 productivity acceleration to investments in technology and management know-how needed to exploit it. Productivity growth was fastest in industries that added the most technology.

But those industries' productivity growth rate slowed from 2000 to 2005... Indeed, they note that investment in information-technology hardware and know-how have been sluggish since 2000. This could undermine future productivity, they say, by denying the economy the "seed corn for future productivity gains."

They estimate productivity growth should continue at about a respectable 2.25%. That rate, ... and a labor force growing more slowly as aging baby boomers take early retirement, could by some estimates pull the U.S.'s "potential" growth rate -- what it can expect over the long-term -- down to 2.5% in the coming decade from the 2.9% annual average of 1995 through 2005. ...

Lower productivity growth means an increase in wages is more likely to translate into ... higher prices... Indeed, one reason the Fed isn't contemplating rate cuts despite recent slowing growth is that unemployment is so low and wage pressures have begun to build. Fed officials believe their predecessors erred by not recognizing the inflationary implications of the 1970s productivity slowdown sooner. ...

Last week, Mr. Bernanke noted business investment has weakened, in part in response to slowing economic growth, though he expects it to pick up again thanks to strong profits and low interest rates. But Mr. Gordon ... argues that business investment has turned down because businesses see less incremental benefit in new technology. "People by now have gotten the low-hanging fruit from the Web and the Internet," he says. ...

For graphs showing longer time-series for productivity, from 1947 and from 1980 to the present, see this post from a  couple of weeks ago which also discusses the potential productivity slowdown.

    Posted by on Saturday, March 31, 2007 at 12:57 AM in Economics, Technology | Permalink  TrackBack (0)  Comments (71)

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