Business Outlook: U.S. ECONOMY
U.S.: HOW MUCH LONGER WILL THIS JOBS SURGE BE `COST-FREE'?
Profits will be squeezed as a dearth of skilled workers slows productivity
Last year everything was coming up roses in the labor markets, especially at yearend. Payrolls shot up, as did workers' real wages. And strong productivity growth kept unit labor costs in line, allowing for good profits and no inflation.
For 1998, however, the trends in productivity and labor costs are not likely to be as favorable for business. For one thing, January payrolls and hours worked continued to surge, even as labor markets are already stretched so thin that workers are able to win bigger pay raises. Also, today's unemployed probably have fewer skills than the pool of labor available a year or two ago, and that lack of experience will make future efficiency gains harder to come by.
With labor costs now accelerating, businesses are facing a tough time adding to their bottom lines. BUSINESS WEEK's roundup of the profits of 900 companies shows that, despite strong economic growth and productivity gains, fourth-quarter earnings posted no growth from a year ago. The last time the economy was anywhere near this dynamic was in 1994, when BUSINESS WEEK's survey showed profit growth of 45%. The upshot: It will get even harder to make a buck in 1998.
At the same time, the domestic economy shows little evidence of losing energy. While that strength will help business cope with lost earnings from Asia, it also means companies will have to hire more workers in order to satisfy new demand, keeping pressure on the labor markets.
INDEED, 1998 HIRING started with a bang. Nonfarm payrolls jumped by a larger-than-expected 358,000. And over the past three months, job gains have averaged 381,000 per month--the strongest clip in 14 years (chart).
The payroll additions were widespread. Construction jobs jumped 92,000: They were lifted by temperate weather in some parts of the nation and storm repairs in other areas. Meanwhile, factories created 43,000 jobs, the fourth consecutive month of sizable payroll gains. And private-sector service producers added 212,000 workers, with large increases in retail, finance, and computer services.
Longer hours in transportation and wholesale trade helped to extend the average nonfarm workweek by 12 minutes, to 34.8 hours. Longer work time plus the slew of new jobs meant that total hours worked in the economy--typically considered a proxy for real gross domestic product growth--began the first quarter at an annual rate of 3.4% above the fourth-quarter average. And while the factory workweek in January slipped six minutes, to 42.1 hours, overtime remained at its record 4.9 hours, suggesting that industrial production increased last month.
WAGE GROWTH ALSO CLIMBED in January. Average hourly pay grew 0.3%, reaching $12.51, with all of the gain in services. Over the past 12 months, wages have risen 3.8%, enabling households to see a large boost in their real buying power. That's why first-quarter consumer spending should continue to rise even after robust increases in the two previous quarters.
The jobless rate in January managed to stay at December's 4.7% only because of a large influx of job seekers. That increase reflects the greater confidence among consumers about finding a new job: The biggest rises in the unemployed came in persons reentering the job market and in those who voluntarily quit their last employer. In coming months, though, the unemployment rate should touch below 4.5%. With a record percentage of the population already in the workforce, labor-force growth is likely to slow soon, pulling the jobless rate lower as well.
Even now, the bottom of the labor barrel seems to be coming into view. In the January employment report, the Labor Dept. introduced new data on the educational level of the unemployed. During the past year, high school dropouts accounted for 40% of the decline in unemployment among those age 25 and older. But joblessness is still highest within that group (table).
With top-end workers already employed, many businesses in 1998 will have to hire people who lack the skills to perform their tasks efficiently. If they make do with less proficient employees, companies will find it more difficult to increase productivity at the same stellar pace they did in 1997. And training those new workers will add to costs.
MAKE NO MISTAKE, productivity grew solidly in 1997, as output shot up in response to surging demand (chart). Output per hour worked in the nonfarm sector grew at an annual rate of 2% in the fourth quarter. For the year, productivity was up 1.7% from 1996 when it rose 1.9%. Moreover, the Labor Dept. revised the 1996 performance up from 1.3%.
One conflicting piece of data, though, was the growth in hours worked. According to Labor's productivity report, total hours worked in the nonfarm economy grew by 3.6% in the fourth quarter. But in Labor's monthly employment report, the tally of hours worked by production workers alone in the same period was up a faster 4.5%. That same kind of discrepancy was even greater in the third quarter.
More believable is the acceleration in salaries last quarter. Overall hourly compensation grew at a 4.9% pace, faster than the 3.9% gain in the third quarter. Even the healthy return in productivity fell behind that hefty increase in salaries and benefits, so unit labor costs jumped 2.9% in the fourth quarter, the biggest advance in more than a year.
The 1.7% rise in unit costs for all of 1997 was about the same as the 1.8% increase in prices economywide in 1997. But the two warnings from the labor report--the shortage of skilled workers and accelerating wages--signal that labor costs this year may soon begin to outpace inflation.
As a result, businesses will face a tough choice: Try and raise prices or suffer a drop in profit margins. Manufacturers will probably have to take almost all of any cost increase as a hit to margins because intense price competition from imports will make it virtually impossible to raise goods prices.
The service sector--where wage pressure is greater but foreign competition less--may have more leeway to raise prices. That's why any sign of inflation will show up on the service side of the economy. But service wages in January were growing by 4.1% annually, so profit margins among service companies are probably getting squeezed already.
So far, the financial markets are focusing their attention on the Asian crisis and its implication for profits. But with labor conditions pointing to a slowdown in productivity at the same time that wage gains are speeding up, the bigger crimp to margins will more likely be homegrown.BY JAMES C. COOPER & KATHLEEN MADIGANReturn to top