More fundamentally, the slowdown in productivity growth, coming at a time when overall demand is still strong, tells us that last year's acceleration in job growth, with gains averaging 181,000 per month, has staying power. After three years of boosting production of goods and services solely with increases in productivity, companies have squeezed about all of the output gains they can from their existing payrolls. In classic business-cycle form, the economy last year entered the stage where output is better balanced between gains generated by productivity growth and those coming from new workers.
It's also important to remember that this expansion has been the most unusual in the modern era for both employment growth and productivity. Job gains have been the weakest, and productivity has been the strongest. One implication is that productivity is unlikely to slow to the low rates of growth reached in past economic expansions.
Why? Companies still face the competitive imperative to boost productivity. And while they are still reaping efficiency gains from past investments in new technologies, they are also now boosting their rate of investment in new equipment.
The other implication is that job growth this year, the fourth year of expansion, will not match past standards. For example, in the fourth year after the 1990-91 recession, job growth averaged 306,000 per month. That pace is a pipe dream for 2005. But given the expected 3.5% pace in the economy and the slowdown in productivity this year, job gains can still hit the 200,000 monthly rate and boost household income.THE JANUARY RISE in payrolls seems to understate the true trend in job growth. Unusually harsh weather may have held down the totals. The Labor Dept.'s data on the reasons people miss work show that 305,000 in nonfarm industries said they couldn't get to work last month because of weather. That number was the most in any January since 1999, and the increase from December to January in the number reporting that circumstance was also the largest since 1999. More normal weather in February could result in a sizable rebound in payrolls.Weather effects can also be seen in the industry data. Construction employment dropped by 9,000 jobs last month, after gains averaging 25,000 per month from October through December. The construction workweek fell by 48 minutes, the second-largest drop in the past seven years. If payrolls in February fully return to their recent trend, construction, by itself, would add more than 30,000 jobs.
Plus, factory payrolls shrank by 25,000, after losses had appeared to stabilize. The drop was the biggest in more than a year and runs counter to recent strong data on new factory orders, industrial production, and from the nation's purchasing managers. Payrolls in the auto industry alone fell by a large 10,000, suggesting that holiday shutdowns may have distorted the data.OTHER TRENDS point to better job growth ahead. First, weekly claims for unemployment insurance remain at low levels. Their four-week average in recent weeks has dipped below the 340,000 per week averaged during the past six months. The relationship between claims and job gains since 1990 says that claims, at 340,000, are consistent with hiring of about 190,000 per month.
Second, and more important, job expansion will benefit from the waning growth of productivity. Output per hour worked in the fourth quarter grew at an annual rate of only 0.8% from the third quarter, the smallest quarterly increase in nearly four years. That slowdown is not alarming. Typically, productivity surges in the early stage of a recovery as companies lift their output faster than they add back laid-off workers. Later, productivity slows as the recovery becomes established and businesses feel more confident about taking on new workers.
This time, the slippage in productivity growth began from an historically high level. The four-quarter pace peaked at a 30-year high of 5.7% in 2003. In the past three recoveries, the average falloff in growth was 3.9 percentage points. If productivity growth slows by that much this time, the rate would hit a low of only 1.7%. In some past expansions, the pace had dipped below zero.
Given that the economy is expected to grow 3.5% in 2005, productivity growth of 1.7% means output gains would be about evenly divided between increased productivity and more jobs. A 1.7% pace of job growth would be equivalent to about 2.4 million jobs, or 200,000 slots per month. What would that mean for the economy? Well, job gains averaged 181,000 per month in 2004, allowing wage and salary income to grow 5%, and the jobless rate fell from 5.7% to 5.2% over the past year.THE DECLINE IN the unemployment rate in 2005 may be more gradual, mainly because the data may be missing some of the slack in the labor markets. Much of the drop in the jobless rate last year reflected a decline in the share of the population with a job or looking for work.
The labor force participation rate has fallen from 67.3% in early 2000 to 65.8% in January, the lowest in more than 16 years. Had that rate not dipped as much, the jobless rate would be much higher. People may be dropping out of the labor force because they perceive what the numbers confirm: Today's job growth does not match the more robust pace of past recoveries.On the plus side, much of the drop in participation has occurred among teenagers, who appear to be seeking schooling instead of a job. The latest available data show that school enrollments in 2003 were at an exceptionally high level. As people finish their degrees or learn new skills, they will reenter the workforce, adding to the pool of available workers. That's why the labor markets will be slow to tighten up.
As a result, pay gains, though picking up, will remain modest. Hourly wages grew only 0.2% last month, and they are up only 2.6% from the year before. That pace is better than the 1.6% low reached in February, 2004, but it is still well below the 4% or so clip seen during the late 1990s, when the unemployment rate fell below 4.5%.
Given the undercounted slack in the labor market and the structural downshift in hiring, a jobless rate at around 4.5% looks to be a 2006 goal. But that doesn't mean the 2005 labor markets will be a disappointment. Despite the slow January start, payrolls should post their best gains since 1999 and generate solid income growth for consumers, which will keep demand on the upswing. By James C. Cooper & Kathleen Madigan