espite the economy's stunning 8.2 percent surge in the
third quarter, the staying power of this economic recovery remains a
matter of debate. But there is one aspect of the economy on which
agreement is nearly unanimous: America's miraculous productivity. In the
third quarter, productivity grew by 8.1 percent in the nonfarm business
sector — a figure likely to be revised upwards — and it has grown at an
average rate of 5.4 percent in the last two years.
This surge is not simply a byproduct of the business cycle, even
accounting for the usual uptick in productivity after a recession. In the
first two years of the six most recent recoveries, productivity gains
averaged only 3.5 percent. The favored explanation is that improved
productivity is yet another benefit of the so-called New Economy. American
business has reinvented itself. Manufacturing and services companies have
figured out how to get more from less. By using information technologies,
they can squeeze ever increasing value out of the average worker.
It's a great story, and if correct, it could lead to a new and lasting
prosperity in the United States. But it may be wide of the mark.
First of all, productivity measurement is more art than science —
especially in America's vast services sector, which employs fully 80
percent of the nation's private work force, according to the United States
Bureau of Labor Statistics. Productivity is calculated as the ratio of
output per unit of work time. How do we measure value added in the
amorphous services sector?
Very poorly, is the answer. The numerator of the productivity equation,
output, is hopelessly vague for services. For many years, government
statisticians have used worker compensation to approximate output in many
service industries, which makes little or no intuitive sense. The
denominator of the productivity equation — units of work time — is even
more spurious. Government data on work schedules are woefully out of touch
with reality — especially in America's largest occupational group, the
professional and managerial segments, which together account for 35
percent of the total work force.
For example, in financial services, the Labor Department tells us that
the average workweek has been unchanged, at 35.5 hours, since 1988. That's
patently absurd. Courtesy of a profusion of portable information
appliances (laptops, cell phones, personal digital assistants, etc.),
along with near ubiquitous connectivity (hard-wired and now increasingly
wireless), most information workers can toil around the clock. The
official data don't come close to capturing this cultural shift.
As a result, we are woefully underestimating the time actually spent on
the job. It follows, therefore, that we are equally guilty of
overestimating white-collar productivity. Productivity is not about
working longer. It's about getting more value from each unit of work time.
The official productivity numbers are, in effect, mistaking work time for
leisure time.
This is not a sustainable outcome — for the American worker or the
American economy. To the extent productivity miracles are driven more by
perspiration than by inspiration, there are limits to gains in efficiency
based on sheer physical effort.
The same is true for corporate America, where increased productivity is
now showing up on the bottom line in the form of increased profits. When
better earnings stem from cost cutting (and the jobless recovery that
engenders), there are limits to future improvements in productivity.
Strategies that rely primarily on cost cutting will lead eventually to
"hollow" companies — businesses that have been stripped bare of once
valuable labor. That's hardly the way to sustained prosperity.
Many economists say that strong productivity growth goes hand in hand
with a jobless recovery. Nothing could be further from the truth. In the
1960's, both productivity and employment surged at an annual rate of close
to 3 percent. In the latter half of the 1990's, accelerating productivity
also coincided with rapid job creation.
In fact, there is no precedent for sustained productivity enhancement
through downsizing. That would result in an increasingly barren economy
that will ultimately lose market share in an ever-expanding world.
That underscores another aspect of America's recent productivity
miracle: the growing use of overseas labor. While this may increase the
profits of American business — help-desk employees or customer-service
representatives in India earn a fraction of what their counterparts in the
United States do — the American worker does not directly share the
benefits. The result is a clash between the owners of capital and the
providers of labor — a clash that has resulted in heightened trade
frictions and growing protectionist risks. There's nothing sustainable
about this plan for productivity enhancement, either.
In the end, America's productivity revival may be nothing more than a
transition from one way of doing business to another — a change in
operating systems, as it were. Aided by the stock market bubble and the
Y2K frenzy, corporate America led the world in spending on new information
technology and telecommunications in the latter half of the 1990's.
This resulted in an increase of the portion of gross domestic product
that went to capital spending. With the share of capital going up, it
follows that the share of labor went down. Thus national output was
produced with less labor in relative terms — resulting in a windfall of
higher productivity. Once the migration from the old technology to the new
starts to peak, this transitional productivity dividend can then be
expected to wane.
No one wants to see that. For all their wishful thinking, believers in
the productivity miracle are right about one critical point: productivity
is the key to prosperity.
Have we finally found the key? It's doubtful. Productivity growth is
sustainable when driven by creativity, risk-taking, innovation and, yes,
new technology. It is fleeting when it is driven simply by downsizing and
longer hours. With cost cutting still the credo and workers starting to
reach physical limits, America's so-called productivity renaissance may be
over before Americans even have a chance to enjoy it.
Stephen S. Roach is chief economist for Morgan
Stanley.
