Last week the Bureau of Labor Statistics (BLS) announced labor productivity declined for the second straight quarter. It’s a worrisome figure for many reasons, the most important being that this is usually the signal of an upcoming recession. Headlines in the financial world were quick to fret that this is the first back-to-back decline since 2006, a strong signal in advance of the big recession in 2007.
Should we be worried? This is never a good sign, but the situation is very different. There are very good reasons why there is a decline in productivity and they all have the potential for signaling a recession ahead. But it also may be the last gasp of the bizarro economy where good news comes to us in the form of bad news, at least at first.
The way productivity is calculated is a simple ratio – total output as GDP divided by the number of workers on the job. Gains in productivity mean economic growth and job growth are stable, so this figure is considered very important as a determining factor for the long-term health of the economy overall.
There are three good reasons why productivity declined recently, two of them actually helpful signs and one of them a sign of a recession ahead.
1) Hiring has gotten ahead of economic growth. This is the most reasonable argument for the slowdown. Job growth has not been robust since 2008, but economic growth has been. Given that we have added 1.5M jobs in the last six months, with a decent 223k added in April, it appears we are finally adding jobs at a pace which signals real growth. If you look at productivity since 2000 you can see how uneven it is overall:
GDP and job growth rarely line up in any way at all. When the economy slowed in 2008 the productivity actually went up as corporations shed workers even faster than the decline – resulting in a spike of 5% growth. This has to average out over time, and with economic output holding more steady now and job growth picking up you have to expect the ratio of the two will decline.
In other words, this is a good sign – companies are finally hiring and catching up with the backlog caused by an irrational fear of continued downturn.
2) Investment has been weak. This is a more subtle argument that the productivity decline is not critical. As corporate profits have soared, investment back into corporations has been slow. A lot of cash is sitting around and being used for less than productive things, as we know. A decline in productivity as hiring picked up has to be only natural in this situation.
The reason is that workers are not the only thing which contributes to productivity. The need tools, computers, or other equipment to really turn things out today. Robots are responsible for more and more, so it’s entirely possible to have a big increase in production without any gain in employment.
The Brookings Institution has tracked this problem back to 2000, when re-investment in companies first took a dive. It lines up with the “Managed Depression” theory held by Barataria that a depression, or decline in overall demand, has been the real problem in the economy since 2000. Corporations has been slow to increase production because there is relatively weak growth in demand for their products and services.
3) GDP growth is down. This is the factor which is really driving the decline in productivity at this point. While the growth in total output is still positive, the preliminary reading for 1Q15 showed only a 0.2% gain. Last year at this time, we were looking at a gain of 2.5%.
Driving the decline in GDP growth is a huge decline in exports, off 7.2%, and a decline in domestic oil production, off 8.3%. These are both related to a strong US Dollar, although weak oil prices have their own reasons on top of a strong dollar. Faith in the US economy compared to the rest of the world has the effect of evening out everything in the long run. That is what is happening so far.
What should we make of the decline in productivity? Overall, job growth is catching up with the economy even as the latter falters from being dragged down by the rest of the world. Those have to both be expected, although stronger domestic growth would offset the losses from abroad. The key is, as discussed before, to have stronger investment by companies in their own future rather than sitting on profits or using them to drive up their own stock. This is a warning sign that business as usual isn’t going to get us out of this depression.