Productivity: Who Wins, Who Loses
In The Sorcerer's Apprentice, a fledgling magician enchants a broom to carry his water for him. Unfortunately, he hasn't learned how to make the broom stop, and the flood nearly sweeps him out into the street. That, in a nutshell, is what the U.S. economy feels like these days. During the 1980s and 1990s, we wanted more productivity growth, we prayed for more productivity growth -- and now we're getting more than we ever expected. Since the start of the recession in March, 2001, output per hour has risen at an astounding 4.6% annual rate. That's far ahead of the 1.8% productivity growth of the previous recession and recovery of the early 1990s.
These productivity gains have been carrying jobs away -- but unlike the magician's broom, they have also generated real benefits for Americans. By BusinessWeek's calculation, the rapid growth in productivity over the past three years has added an additional $220 billion to the nation's gross domestic product, compared with what GDP would have been if productivity growth had followed the slower pace of the previous business cycle.
High productivity has enabled corporations to boost the bottom line while holding down price increases. Corporate operating profits are up $223 billion in the past year, according to the latest data from the Commerce Dept., while an astonishingly low inflation rate averaging 1.5% a year since 2001 has saved consumers hundreds of billions of dollars.
In addition, the hike in productivity directly and indirectly has driven up asset prices. Rising profits, of course, have pushed the stock market nearly back to levels before the recession, benefiting investors, while low interest rates have sent home prices soaring, to the delight of many homeowners. All told, the latest data from the Federal Reserve show that household net wealth is at an all-time peak, surpassing the previous high in early 2000.
What's lacking so far from the productivity boom -- and it's still very early -- are new and innovative industries that create jobs to replace those that are lost. In the second half of the 1990s, productivity growth accelerated as big companies became more efficient and manufacturing jobs were outsourced overseas. But overall employment rose sharply as the technology sector expanded, adding not just engineers and programmers, but also marketers, cable installers, Web site designers, and all sorts of high and low-end jobs.
TEPID WAGE GROWTH. With info tech employment in a slump, there's no new industry now driving the job market. True, there are plenty of possible candidates for the Next Big Thing: Biotech, telecom, energy, nanotechnology, and even the commercial exploitation of space are all capable, in theory, of making a big difference in the job picture. However, it's not clear which of these, if any, will make the leap into the economic major leagues as autos did in the 1920s, commercial aviation did in the 1950s and 1960s, and info tech did in the 1990s.
For now, the lack of a leading-edge industry means that the benefits of the productivity boom are distributed unevenly. In the 1990s, the tight labor market helped everyone, including the less skilled. Indeed, businesses were forced to hire and train many people who were formerly thought to be unemployable.
By contrast, this recovery has left the unemployed and poor behind while mainly helping owners of assets such as stocks and homes, who also tend to have higher incomes. And although inflation is low, so is wage growth for most of the population.
Indeed, the only group whose wage gains are significantly outpacing prices are managers and executives. Already the best-paid workers in the economy, their real wages have risen 2.6% over the past year, aggravating income inequality.
The contours of today's recovery stand in stark contrast to the one that followed the recession of the early '90s. From the middle of 1990, when that recession began, to early 1993 -- a period roughly comparable to the past three years -- GDP rose at a mild 1.8% rate. But the gains from this relatively weak growth were well-balanced. Total wages and salaries, adjusted for inflation, rose by almost as much as real corporate earnings.
This time, faster productivity growth means the economic pie is bigger, but all of the extra $220 billion in GDP -- and a bit more -- has gone to corporate profits. The economywide total of real wages and salaries is actually a bit lower now than when the recession began, mainly because of the loss of 2.4 million jobs.
But that's not the whole story. Americans have been hit by a crosscurrent of forces stemming from faster productivity growth. On the plus side, surging productivity, rather than showing up as jobs or wages, has translated into a rise in wealth. For example, higher profits have clearly driven the rebound in the stock market. Over the past year, the market value of the Standard & Poor's 500-stock index is up by about 40%.
Less directly, robust productivity growth is also fueling the housing boom, which benefits the almost 70% of American households who own their own homes, an all-time high. The key is low mortgage rates, which have plunged to rock-bottom levels despite huge government budget deficits. Rates have stayed low in large part because foreign investors have kept pouring money into the U.S., which is an attractive investment opportunity because of high productivity and rising profits. Thus, in the fourth quarter of 2003, for example, foreigners purchased $284 billion worth of corporate bonds, $84 billion in stocks, and $178 billion in agency securities, all measured at an annual rate. The last are mostly mortgage-backed securities, which go directly to fund home purchases and refinancing.
Buoyed by this overseas money, home prices -- adjusted for inflation and quality -- have risen by 17.1% over the past three years, and 6.5% in the past year alone. By comparison, coming out of the last recession, real home prices fell. The current sharp rise in housing prices has provided an almost endless source of spending money for Americans. Over the past year alone, home mortgages have gone up by $760 billion, including a sharp rise in home-equity loans.
When American homeowners spend their housing wealth, they're also reaping the benefits of low prices. While some costs -- notably tuition and health care -- are higher, an astonishing variety of products, ranging from furniture to appliances to autos to clothing to telephone services, cost less than they did a year ago. In fact, consumer prices are about 4% lower than they would have been if inflation had proceeded along the same path as it did in the early 1990s. That's the equivalent of increasing the buying power of workers by almost $200 billion.
HOMEOWNER ANXIETIES. But many have not fared well in the productivity-driven recovery. Unemployed workers have languished on the sidelines as hiring has stalled in many industries. Over 40% of the unemployed have been out of work 15 weeks or longer, compared with 23% in 2000. And despite the conventional wisdom that this is mainly a white-collar slump, the collapse in manufacturing jobs has hit the lower rungs of the labor ladder harder. Unemployment for what the Bureau of Labor Statistics calls "production occupations" -- including many factory jobs -- is 7.8%, compared with 2.7% for managerial and professional occupations.
In addition, productivity growth without job or wage growth leads to other problems. The only way that many Americans can pay their mortgage and hold onto their major asset -- their home -- is to stay employed, creating anxiety about the job market even among those who are lucky enough to benefit from rising housing prices. And federal and state government finances are not designed for an economy in which wealth rises and wages stay flat, since the tax system is focused on taxing income, not wealth.
There are two possible ways that the current productivity boom could play out. In the absence of innovative new industries, the worst fears of pessimists will turn out to be true: Job growth will stay sluggish, demand will eventually sag, and over the course of the next decade, incomes will be driven down under the continued pressure of competition from China, India, and other low-wage countries.
The other, more optimistic alternative is that a new industry arises to take the baton from information technology as the leading sector of the economy. For example, biotech today is in the same situation as info tech was in the 1980s -- a relatively small industry in terms of jobs but with enormous potential. A few blockbuster drugs -- say, a real cure for colon cancer -- could mean a tremendous explosion of jobs in research, sales, and production.
It's important to realize that the new ideas need not be created in the U.S. The World Wide Web was invented in Switzerland, and drug research has been done around the globe for years. Moreover, Europe and Asia have long taken advantage of ideas generated in the U.S., showing that innovations travel easily across national borders.
In that sense, the growth of research and development operations in China and India -- regarded as potential competition by some -- could be good news for the U.S. With more smart minds, tough problems such as cheap solar power could be solved more quickly. What's important is for U.S. companies and workers to be flexible enough, with sufficient access to capital, to quickly take advantage of new technologies and opportunities when they arise.
Still, for all the uncertainty about the future, an economy driven by productivity growth is far superior to the alternative. Even without job growth, Americans are collecting the benefits of higher productivity through rising wealth and lower prices. Consumers are still spending -- and they're still buying homes. And if jobs and wages pick up soon, today's anxiety will feel like a dim memory.
By Michael J. Mandel