New economy productivity

TownHall.com ^ | 8/08/03 | Bruce Bartlett

[kattracks]

For the last year or two, it has been fashionable to ridicule the idea of a "New Economy," which underlay the stock market boom of the late 1990s. However, last week's productivity report shows that the New Economy is alive and kicking.

The original notion of a New Economy was that computers, the Internet, wireless phone technology and other innovations had radically altered the economy permanently. In particular, these innovations significantly raised the trend rate of productivity growth.

Productivity rises when people make more with less, especially less labor, but also less capital, lower inventories and other costs of production. Increasing productivity, measured as output per man-hour, is per se a good thing. The standard of living could not rise unless workers are able to use less and less labor to produce the same goods year after year.

During the 1970s and 1980s, we went through a productivity crisis. The trend rate of productivity growth fell from about 3 percent to about 1.5 percent per year. This may not sound like much, but the change was dramatic. At a 3 percent productivity rate, the real standard of living will double every 24 years. At a 1.5 percent rate, it would take 48 years.

There is still no consensus on why the productivity rate trend fell so dramatically. Some blame OPEC for raising the price of energy. Others blame the massive wave of government regulation that was imposed on the economy in the 1970s. There was also a role for demographics and other factors, as well.

The idea that productivity was going to grow at a permanently lower rate had important implications for government policy. For one thing, it encouraged the Federal Reserve to keep a tighter hold on the money supply. Since inflation results when the money supply rises faster than the production of goods and services, lower output per hour meant that the money supply needed to grow more slowly to prevent inflation.

Computers and the Internet changed all that. They made it possible for companies to economize in many ways. Individuals, too, found the new technology time-saving and, therefore, productivity-increasing. People like me order all manner of products over the Internet, saving me the need to drive to the store. And it saves money as well by allowing easy price comparisons. Perhaps the most dramatic impact of this is in the area of travel, where the Internet allows people to buy airline tickets and book hotel rooms at sometimes ridiculously low prices.

Eventually, government policymakers came to believe that the New Economy had reversed the productivity decline. In the 1990s, the trend rate of productivity rose to 2.5 percent. This allowed the Fed to run a looser monetary policy than it otherwise would have been able to. This fueled the stock market boom, which provided capital for myriad new technology companies, which in turn underpinned the New Economy and continued to raise productivity.

The problem we are facing now is that while rising productivity raises living standards, it can also mean that fewer workers are needed to maintain output at the same level. So in a time of slack demand, as we have now, there are fewer jobs available. Indeed, high productivity is at the base of the jobless recovery we are experiencing.

A review of recent recessions shows that there has been a change in the behavior of productivity. Historically, a sharp drop in productivity preceded recessions, as employers kept workers on even as output fell. Productivity rose after the recession mainly because employers were reluctant to hire as output increased. Thus, in the six quarters preceding the trough of the 1973-75 recession, there was zero increase in productivity during that whole period. In the six quarters before the 1981-82 recession, the total increase in productivity was just 0.8 percent. In the six quarters after the trough, productivity rose by 5.9 percent in both cases.

This started to change with the 1990-91 recession. Productivity rose by 1.2 percent going into the recession and 4.5 percent coming out. The higher productivity going in meant that fewer workers were needed coming out of the recession. Now, in the current recession, which ended in the fourth quarter of 2001, we have seen even higher productivity on either side. The latest data show an increase in productivity of 4 percent in the six quarters before and 6.5 percent in the six quarters after. That is why employment growth and hiring levels remain weak. Employers are raising output without adding much new labor.

It is important to remember that this is a short-run phenomenon. In the long run, higher productivity increases employment, a fact documented in two new studies from the Federal Reserve Bank of Richmond and the Federal Reserve Bank of San Francisco. But in the meantime, employment growth may still be slow for a couple more months.

Bruce Bartlett is a senior fellow at the National Center for Policy Analysis, a TownHall.com member group.

©2003 Creators Syndicate, Inc.

Contact Bruce Bartlett | Read Bartlett's biography

[raybbr]

This is all smoke and mirrors. My boss was telling how much more energy costs where I work. Also, if you factor in all the "work" done by the overseas portions of companies, that is where the productivity increase is seen. It means nothing to the average American who is burdened to the hilt with taxes and working 50 to 60 hours a week to stay afloat.

I know there are a lot of you super-capitalists out there who think the American worker should put in 80 hours a week minimum just becuase the rest of the world does. I thought that was why we were the greatest nation on earth. We had the wherewithall to be profitable while working a decent number of hours so we could be with our families and enjoy leisure time.

[Mind-numbed Robot]

This is all smoke and mirrors. My boss was telling how much more energy costs where I work. Also, if you factor in all the "work" done by the overseas portions of companies, that is where the productivity increase is seen. It means nothing to the average American who is burdened to the hilt with taxes and working 50 to 60 hours a week to stay afloat.

No, it is not smoke and mirrors. It is true about productivity and unemployment in just the way he described.

Energy costs? What does that have to do with the article. Sure it is an added expense but that does not deal with the subject at hand.

Taxes are a big problem, not just for the worker but for the employer, too. So are the myriad government regulations from from OSHA, the EPA, EEO, affirmative action, and on and on. Were our governmental burden reduced we would be competitive despite the low wages in other counties.

I know there are a lot of you super-capitalists out there who think the American worker should put in 80 hours a week minimum just because the rest of the world does. I thought that was why we were the greatest nation on earth. We had the wherewithal to be profitable while working a decent number of hours so we could be with our families and enjoy leisure time.

Somehow, somewhere along the way, you were either misinformed or you misinterpreted what freedom is all about. Freedom also means freedom to fail. America is supposed to be the land of opportunity, not the land of guarantee. Even with the high taxes and burdensome government control we are still the freest land in the world with the most opportunity. If you don't like working so many hours then save your money and after awhile you can start your own business and work the hours that please you. Can't do that? Why not?

Us free enterprise, market driven "capitalists" don't want people working anymore hours than they care to in order to accomplish what they want to accomplish. However, if I am an employer I want workers who are willing to work the hours I need and be reliable and dependable while doing it. If they can't, I don't need them. If it is not you then I'll find someone else, either here or abroad.

[Monty22]

The economy just grew out of control from 98-2001, that's all. If it had been tempered and not driven up to help gore win, we would not have had the steep drop recently.

The fed should be more careful and start raising interest rates to keep the economy from cooking over.

[Starwind]

Productivity rises when people make more with less, especially less labor, but also less capital, lower inventories and other costs of production. Increasing productivity, measured as output per man-hour, is per se a good thing. The standard of living could not rise unless workers are able to use less and less labor to produce the same goods year after year.

Part of the reason productivity grew may be due to offshoring (historically) lower productivity industries - textiles, furniture, call-centers (deemed high-cost, low benefit) etc, and consequently what is left behind is statistically more productive.

Some industries may also in fact be more productive (due to technology and working harder), and some offshoring of ostensibly productive sectors like IT (though I know IT managers who would argue IT is not productive - hence the mandate to at least reduce costs) offset the benefit to US productivity. How it all nets out is unclear.

But some of the recent productivity spurt may be a statistical anomaly due to offshoring and shrinkage of manufacturing.

In the long run, higher productivity increases employment,

Actual (not statistically anomalous) higher productivity may increase employment - the Fed studies alluded to need to be reviewed.

But productivity that increases through statistical anomaly (by offshoring or shrinking low-productivity operations) without fully re-employing the domestic capital and labor somewhere, is like cutting off a ball a chain so you can walk faster and farther - it lightens the load, but it doesn't mean you are healthier.

[Tauzero]

"A review of recent recessions shows that there has been a change in the behavior of productivity. Historically, a sharp drop in productivity preceded recessions, as employers kept workers on even as output fell. Productivity rose after the recession mainly because employers were reluctant to hire as output increased."

Bruce, Bruce, Bruce. Where have we seen similar productivity gains in history?

See NBER working paper #4415, "Labor Productivity During the Great Depression"

"The purpose of this note is to point out that, within the data set analyzed by Bernanke and Parkinson (20% of the manufacturing sector)... labor productivity during the Great Depression was procyclical in some and countercyclical in others. Furthermore, our measure of labor productivity for the entire manufacturing sector during this period was countercyclical"