Tight Labor Markets Increase Productivity

Didn’t we know this?

Since the end of the Great Recession, however — and, to a lesser extent, even during the stronger economic times that preceded it — productivity growth has been confoundingly weak, forcing business owners and workers to compete over a relatively meager sliver of economic growth. There have been peaks and valleys, but not since the dot-com boom of the late 1990s and early 2000s has the American economy consistently delivered productivity growth above 2 percent a year.

Now some economists think a rebound could be on the way. For most of the recovery, wage growth has been anemic, suggesting companies faced relatively little pressure to invest in automation or to find other ways to squeeze more production out of workers. But as the labor market tightens, companies’ incentives could be changing.

“You could meet demand for a while by hiring workers, but with the unemployment rate at 3.8 percent, eventually you’re going to run out of easy-to-find workers,” said John G. Fernald, an economist at the Federal Reserve Bank of San Francisco and an expert on productivity. “Because workers have other opportunities, you end up having to pay them. And once you see wages going up, you say, ‘We have to become more productive to cover our costs.’”

That cycle could already be underway. Wage growth has crept up over the past two years. One measure preferred by many economists, the Employment Cost Index, posted its strongest year-over-year growth since the recession in the first three months of the year. And there are other indications that companies are struggling to find workers. Applications for disability insurance, for example, have begun to fall, a sign that companies may be more willing to look outside the standard labor pool to find employees. And while productivity has yet to rebound, corporate investment — historically a prelude to productivity growth — has been rising…

Decisions like Mr. Maletto’s aren’t the way economists have historically thought about productivity growth. In traditional economic models, productivity is determined by technological advances and business innovations that aren’t tied to the ebb and flow of recessions and recoveries. The economic boom of the 1920s, according to the standard narrative, was enabled in part by the spread of electric power. A similar pattern played out in the 1990s with the rise of personal computers. In both cases, technology paved the way for productivity, which in turn led to higher pay and faster growth.

But in recent years, some economists have begun to wonder if the conventional models might get the relationship backward. Perhaps periods of strong economic growth are what put pressure on companies to innovate, or at least to figure out how to use new technologies to make themselves more efficient. Maybe it isn’t a coincidence, in other words, that the last period of strong productivity growth also coincided with the last time the unemployment rate fell below 4 percent.

I’m not saying the traditional model is wrong, but wasn’t the ‘new’ model kind of obvious. Then again, we rarely consider that a lot of technological innovations aren’t radical breakthroughs, but minor changes in production systems (though that should be obvious to anyone who has built a production line).

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