| BUSINESSWEEK ONLINE : AUGUST 28, 2000 ISSUE | ||||||||
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| BUSINESS OUTLOOK
U.S.: It's Productivity to the Rescue! Superstrong gains rule out higher interest rates anytime soon Nothing warms the heart of Federal Reserve Chairman Alan Greenspan like a good productivity report--especially the latest one, showing a stunning 5.3% growth rate for the second quarter. The data strongly support his view that a new era of technology-driven productivity gains is blunting inflation, even as the economy expands vigorously. It will be difficult to argue against that notion at the Fed's Aug. 22 policy meeting. Consequently, the productivity data, combined with the tepid July job numbers, pretty much rule out an interest-rate hike at that session. In fact, chances for higher rates later this year also may be diminishing. Why? Because productivity growth during the past year has been so strong that unit labor costs are actually falling (chart). Even though a red-hot economy and its extremely tight labor markets have put upward pressure on pay and benefits, productivity growth over the past year has sped up to 5.1%. That's the strongest four-quarter growth rate in 17 years. With that pace exceeding the growth in pay, unit labor costs are down 0.4% from the year before. These trends lead to two important conclusions for the outlook: First, without pressure from unit labor costs, inflation cannot take root in any serious way. Unit labor costs are the basic fuel that sustains a rise in inflation. And second, the profits outlook is good. As long as prices continue to rise faster than unit labor costs, profit margins will expand, as they have been doing in recent quarters. Profits may still fall short of the high expectations of many investors, though. BUT CAN PRODUCTIVITY maintain this accelerated pace? Economists continue to argue over how much of the recent improvement is lasting--the result of new technologies--and how much is temporary, subject to the ups and downs of economic growth. But even as the debate continues, productivity growth keeps soaring to new heights. Indeed, its five-year growth rate has doubled since 1995, to 2.8% per year, the best such showing since the 1960s. The answer may not be known for years, but Greenspan has made his position clear. He told the New York Association for Business Economics on June 13 that ''most of the gains in the level and growth rate of productivity in the U.S. since 1995 appear to have been structural, largely driven by the irreversible advances in technology and its applications.'' With data like these, that's hard to deny. But the past year's 5.1% pace of productivity appears to have been exaggerated by the economy's unsustainable strength in demand. Note that the economy grew 6% during the past year, also the fastest four-quarter rate since the early 1980s. With output that strong, you would expect productivity to be strong as well, and if economic growth slows to a more sustainable 4%, productivity growth is sure to fall back also. ANOTHER AREA OF CONTENTION among economists is the breadth of recent productivity gains, particularly in the manufacturing sector. To be sure, measurement problems grossly understate the performance of service-sector efficiency, especially in financial services. Those measurement flaws are far less onerous in manufacturing, where outputs are more tangible. Data show that only three high-tech industries--computers and office equipment, communications equipment, and semiconductors--account for all of the uptrend in factory productivity growth. The Labor Dept. does not offer such a productivity measure. But BUSINESS WEEK constructed an approximation of output per hour in manufacturing, excluding the three sectors and using data on industrial production, employment, and weekly hours worked (chart). In the past year, productivity growth in these three industries, which make up only about 10% of total factory output, appears to have been on the order of 50%: Output grew about 49% while hours worked declined about 1%. In the other 90% of manufacturing, the productivity miracle portrayed by the overall sector performance appears to be a lot less remarkable, despite the increased use of technology by many manufacturers. Consider that during the past year, total manufacturing output has grown 6.5%, while output in the 90% that excludes computers, communications equipment, and chips is up only 1.8%. Such tech areas account for nearly all of the growth in factory output in recent months. One result of this skewed influence would be a sharp falloff in productivity growth should a high-tech slowdown occur. But any such slowdown still seems a long way off. If anything, capital spending is speeding up this year. Outlays for business equipment surged at an annual rate of 21% in both the first and second quarters, the largest two-quarter advance in 17 years. Booming capital-goods orders through June suggest further strength in the second half. Strong investment now will benefit productivity gains in coming quarters. THE OTHER GOOD NEWS from the labor markets is the July employment report, showing cooler job growth. That's a prerequisite for a slowdown in consumer spending--and overall economic growth--to a more sustainable pace. Monthly job data are still distorted by the ebb and flow of temporary Census Bureau workers, but private-sector payrolls rose by 138,000 in July. So far this year, gains in this sector have averaged 177,000 per month, down from 202,000 in 1999 (chart). Moreover, this year's job growth is well within the range that is historically consistent with a stable unemployment rate. Unless job growth reaccelerates, joblessness is unlikely to go much below July's level of 4%. But is a 4% jobless rate also consistent with stable wage growth? So far, the answer appears to be no. Average hourly earnings of production workers in July rose 0.4% from June, and so far this year earnings are growing at a 4.1% annual rate, up from 3.5% during all of 1999. Without some loosening in the labor markets--meaning a higher unemployment rate--pay growth will keep accelerating, at least gradually, as companies scramble to fill vacant job slots. The worry for 2001 is that this acceleration will continue, even as productivity slows to a sustainable pace. The result? Renewed upward pressure on unit labor costs. Indeed, many cost-of-living adjustments in wages next year will be based on inflation this year, which has been pushed up by a full percentage point, mainly because of higher energy prices. But right now, that's not an urgent concern. If the five-year growth rate in productivity of nearly 3% and the 1% growth in the labor force reflect the economy's potential for noninflationary growth, then a 4% economic expansion is sustainable over the long haul. And that's why Greenspan is no doubt feeling quite pleased with himself right now. By JAMES C. COOPER & KATHLEEN MADIGAN _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ BACK TO TOP |
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RELATED ITEMS U.S.: It's Productivity to the Rescue! CHART: A One-Two Punch against Inflation CHART: Where Efficiency Gains Are Hottest CHART: Job Growth: Slower, But Still Strong INTERACT E-Mail to Business Week Online | |||
