One of the worst stretches ever for American productivity growth is getting even worse.
Worker productivity—the output of goods and services for each hour of labor—slid in the opening months of the year as companies shelled out more on wages. The trend, if it continues, poses a challenge to the economy’s potential amid weak global growth and declining corporate profits.
Declining productivity growth means companies need more workers to keep up with demand and helps explain why millions of people have been able to rejoin the job market in recent years despite a slow-growing economy.
But poor productivity can also crimp companies’ profits and threaten workers’ wage growth and living standards over the longer run.
“For productivity growth to pick up, output has to pick up,” said Joshua Shapiro, chief U.S. economist at consultancy MFR Inc. “We need stronger demand. I don’t see where that’s going to come from in the global economy.”
The current economic expansion, which wraps up its seventh year next month, has been driven largely by rising employment rather than gains in productivity. Since the economic recovery began in mid-2009, output per hour worked has expanded at an average annual rate of 1.3%. That was the worst performance over a seven-year stretch since the late-1970s to mid-1980s, which were marked by back-to-back recessions.
In the first quarter, the picture worsened: Productivity in the nonfarm business sector declined at a 1% seasonally adjusted annual rate, the Labor Department said Wednesday. From a year earlier, productivity was up just 0.6%. The quarterly drop marked the fourth decline in the past six quarters.
Productivity usually grows fastest in the early stages of a recovery while companies catch up to a rise in demand with a leaner workforce, and then it typically slows. Economists are divided about why productivity gains have frequently stalled in recent quarters. Federal Reserve Chairwoman Janet Yellen in late March said the reasons for “very disappointing” productivity are difficult to understand.
Factors often cited for the slump run from a regulatory and tax environment that some economists say discourages entrepreneurship to mismeasurement of the data to technological change and persistently weak demand throughout the expansion.
“Part of the story is how far things fell in the recession and how long it took to make up lost ground,” Barclays economist Jesse Hurwitz said.
Meanwhile, firms struggling to produce goods and services efficiently are boosting headcount to compensate, though the added workers are having a limited impact on output. In the first three months of this year, workers toiled for longer hours—and for higher wages—but their output barely nudged up.
Unit labor costs, a key gauge of compensation costs, increased at a 4.1% annual rate in the first three months of the year from the prior quarter. That was the sharpest jump in more than a year. Labor costs climbed 2.3% from a year earlier, well above recent inflation reading.
Indeed, wage growth showed some progress. Hourly compensation increased at a 3.0% annual rate compared with the prior quarter. That comes after hourly compensation grew at a 0.9% annual rate in the fourth quarter, and could be a signal that a tightening job market may be putting pressure on employers to better pay packages.
A flipside of higher compensation for workers is lower profits for companies. Three of the largest U.S. trucking companies—Werner Enterprises Inc., Knight Transportation Inc. and Swift Transportation Co.—all saw double-digit profit declines in the first quarter, blaming rising driver wages for part of the squeeze.
Pizza chain Papa John’s International Inc. said it had “seen a little bit of wage inflation.”
“There is pressure throughout the rest of the country in various forms” beyond cities like New York which recently boosted the minimum wage, finance chief Lance Tucker told investors Wednesday.
Dropping productivity is another worry for the broader U.S. economy, which barely managed to eke out growth in the first quarter.
Gross domestic product, the broadest measure of goods and services produced across the economy, increased at a tepid 0.5% seasonally adjusted annual rate in the first three months of the year, the Commerce Department said last week. Business spending tumbled, while exports fell and consumers showed signs of caution.
That is a concern for the Federal Reserve as it attempts to move away from extraordinary easy-money policies without undermining the fragile U.S. expansion.
The confidence about economic strength that led Fed officials to raise short-term interest rates late last year has been tempered by concerns about weak global growth, subpar inflation and slow productivity growth. Since the December rate increase, officials have indicated they will go slow on further increases. The decline in productivity and weak demand mean the Fed can’t yet lower its guard against threats to inflation.
The productivity slowdown has not been confined to the U.S. Since the financial crisis, labor productivity growth fell significantly in most member countries of the Organization for Economic Cooperation and Development, according to the 34-nation group of developed economies. The U.K. recently lowered economic growth forecasts in part to reflect a gloomier productivity outlook.