It was still a boom, but maybe it wasn't as big as we thought. Some recent, and startling, revisions to a host of economic data have put the halcyon years of 1998 to 2001 in a different light. But the new numbers don't just alter the past. Of more importance, they offer some insight into the U.S. economy's future.
For starters, the new data imply that Corporate America is under greater stress than the old data had suggested, reflecting a more severe profit squeeze. That means businesses will continue to make the wrenching cuts to capital spending and payrolls so evident in the second-quarter data on gross domestic product and in the July labor market report. These cuts could delay the economic upturn until later this year.
But they won't prevent a rebound because the revisions revealed why Household America, through its spending, has been so steadfast in its support of economic growth. The new data show that labor compensation has grown much faster than originally thought. That means households enjoyed stronger growth in real incomes and that their rate of saving is now positive, having swung in May from -1.3% to +1.2%.
THE ECONOMY'S FRESH LOOK is based on the Commerce Dept.'s yearly revisions using more complete government data, chiefly from final corporate and individual tax returns and state-level job data that had not been available earlier. The tax returns were especially significant because they more fully captured two key trends during the late 1990s. The first is the sizable impact on labor income from stock options, and the second is the greater extent of the tech bust, since the misadventures of many more small companies are now accounted for.
This new information has rejiggered some assumptions about the late 1990s' economy. First, Commerce found that businesses did not invest as heavily in high-tech equipment as first thought. That meant the U.S. didn't grow as ferociously as originally reported, especially last year, when growth was revised from 5% to 4.1%. As a result, the Labor Dept. had to scale back its measure of productivity gains--significantly so in 2000. And corporations generated far fewer profits (charts).
A central part of the story is that Commerce sharply revised the shares of national income going to labor compensation and profits. In the past three years, compensation has risen from 70% of national income to nearly 73%, regaining all of the share it had lost to profits in the mid-1990s. Profits' share fell from 12% to about 9%. This new pattern evinces the two-track nature of the current slowdown: Consumers continue to keep the economy afloat, even as businesses struggle.
The downward revisions to profits in recent years is dramatic. Operating earnings in the first quarter now total $789.8 billion, $103.6 billion less than the old data showed. What's more, the profitability of nonfinancial companies, defined as the earnings generated per unit of output, is at its lowest level since 1993, suggesting that margins are under extreme pressure.
Manufacturing industries accounted for the lion's share of the downward revision to profits. And within manufacturing, three tech-related sectors were key: industrial equipment, which includes computers and peripherals; electronic equipment, which includes telecom equipment and semiconductors; and communications services. These three sectors include more than just tech, but they capture the tech influence. In 2000, the three generated 3.5% of all domestic profits, but they accounted for 40% of the downward revision to the first-quarter level of domestic earnings. These profits since the end of 1997 were originally thought to have declined about 16%. The new data show them down by a shocking 70%.
A KEY POINT HERE is that the stock market had a better handle on what was happening in Corporate America than the Commerce data did. The new numbers also show why the corporate sector unraveled so rapidly last year. But most important for the outlook, businesses have little reason to boost payrolls in coming months and every incentive to extract all possible productivity gains from their slimmed-down workforces. That's what typically happens when demand picks up. And given the current sorry state of profits, corporations will surely follow that pattern in the second half.
Certainly, July saw no turnaround in the job markets. Payrolls in the private sector declined last month by 73,000 workers, the third drop in the past four months. The best news was that the declines were not as broad as in recent months and that manufacturing posted the smallest drop of the year. Factory payrolls fell by 43,000 after losses averaging nearly 100,000 per month in the first half.
The job data show that businesses have cut about 200,000 workers so far this year (chart). That means productivity has more than accounted for the first half's output growth. Productivity rose at a healthy annual rate of 2.5% in the second quarter, and the first-quarter was revised from a 1.2% drop to a 0.1% rise. For the first half, output per hour worked rose at a 1.2% pace, surpassing the 1% increase in real GDP. That pattern is holding in the third quarter as well. In July, total hours worked were down at a 1.1% rate from their second-quarter average, suggesting any gain in output is coming entirely from increased efficiency.
RISING PRODUCTIVITY has been a hallmark of the recent economic performance of the U.S. And that importance holds true even after downward revisions by the Labor Dept. Since the end of 1995, productivity has grown 2.4% per year. The old data showed 2.7%. The new pace is up from 1.8% in the previous five years and well ahead of the 1.4% pace in the 1980s. So the upward shift in the long-term growth rate of productivity is intact. The economy's sustainable, noninflationary growth rate may be a smidgen less, perhaps by one or two tenths of a percentage point. But it still appears to be significantly higher than it was in the 1980s.
Most of the downward adjustment to productivity occurred in 2000. Growth was refigured at 3%, a steep drop from the original 4.3%. As a result, growth in unit labor costs last year was revised sharply higher, from only 0.7% to 3.1%. That dramatic upward revision reflects not only weaker productivity but also stronger growth in labor compensation. Against a backdrop of limited pricing power, this result is perfectly consistent with the more severe squeeze on corporate profits.
So the government's revisions, as diverse as they were, tell a consistent story, and one that better helps to understand the economy's performance in recent years. On balance, they show just how badly Corporate America is hurting right now, but they also show why Household America is keeping this expansion moving along in its 11th year.
By James C. Cooper & Kathleen Madigan