Productivity Jumps to 3% in Fourth Quarter
Unit labor costs - a key inflationary signal - rose at an annual rate of 1.7% in the fourth quarter, indicating that tight labor markets weren't contributing to higher overall inflation in the quarter.
Both numbers were better than expected. The median forecast of economists surveyed by MarketWatch looked for a 2.4% rise in productivity and a 2% gain in unit labor costs.
Real hourly compensation increased 7.1% as consumer prices fell 2.2%.
The report should be welcomed on Wall Street and at the Federal Reserve, but the good news will be taken soberly, because productivity will likely be revised lower once the impact of the large revision to payrolls in 2006 is included in the figures next month.
Productivity, a concept that's simple in theory but elusive in practice, is output divided by hours worked. Productivity gains are the key to higher living standards, higher wages, increased profits and low inflation.
High productivity growth means the economy can grow rapidly without inflation, raising living standards and theoretically allowing workers to get big raises without hurting the boss's profits.
But a low rate of productivity growth can mean a sluggish economy and increased inflationary pressures. Unfortunately for those who want easy answers, in practice productivity is extremely difficult to measure, particularly in the services.
Most economists focus on the longer trend, rather than on the volatile quarterly numbers.
Compared with the same quarter a year ago, productivity was up 2.1%, while unit labor costs rose 2.8%.
For all of 2006, productivity rose 2.1%, the slowest annual increase in 10 years. Unit labor costs rose 3.2%, the most since 2000.
Productivity averaged about 2.7% annually from 1948 to 1970, then slowed to 1.6% from 1971 to 1995. Since then, productivity has grown about 2.5% annually.
Productivity has slowed in the past few years. One of the big debates in the economy is whether that slowing is structural or related to the business cycle. If it's structural, Americans will have to get used to slower growth. If it's cyclical, then the long-term speed limit of the economy will stay above 3%.
In the manufacturing sector, productivity rose 2.2% in the fourth quarter, with unit labor costs rising 5% and real hourly compensation up 9.8%. For 2006, manufacturing productivity rose 3.9%, unit labor costs rose 0.2% and real hourly compensation increased 0.9%.
The government will report its estimate of nonfinancial sector productivity with the revision next month. Nonfinancial productivity is considered by policymakers to be the cleanest read on productivity, because productivity in financial services appears impossible to measure.
Through the third quarter, nonfinancial productivity had risen 3.2% year-on-year, with unit labor costs up 1.1%. Real hourly compensation had advanced 1%.