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Chapter 17: Labor
Productivity: Wages,
Prices, and Employment
1. The Productivity
Concept
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Labor Productivity
Labor Productivity =
Total product (real Number of worker hoursGDP)Productivity
Index
Year 2=
ProductivityYear 2ProductivityBase Year * 100 Productivity can be calculated using data from different years to form an index of productivity relative to a base year.
BLS Index
• The BLS productivity index is calculated by dividing real output in the private sector by the number of hours
employed in the private sector.
• The index understates productivity growth in that improvements in the quality of output are not taken into account.
• The index implies that labor alone is the cause of the rise in
productivity. Other
factors such as increases in the amount of capital and technological
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2. Importance of
Productivity Increases
Productivity increases are important because:
Productivity growth is the basic source of increases in real wages and living
standards.
Productivity growth is an anti-inflationary force in that it offsets increases in
nominal wages.
Importance of Productivity
Increases
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Productivity and Real Compensation
• Because real output is real income, the
growth of real output per worker hour and the growth of real compensation per
hour are very closely related.
If nominal wages rise at a faster rate than productivity rises, then the labor cost per unit of output (unit labor cost) will rise.
If nominal wages rise at a slower rate
than productivity rises, then the labor cost per unit of output will fall.
Since labor costs are between 70 and 75 percent of total production costs, higher unit labor costs will lead to higher
inflation.
Other factors also affect the inflation rate such as the money supply.
Inflation and Productivity
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3. Long-Run Trend of
Labor Productivity
Importance of Causes of Productivity Growth
• Jorgenson and Stiroh estimate that about one-half of the productivity growth
over the 1959-2001 period was due to increases in the quantity of capital.
The other half was due to increases in labor quality and
improvements in efficiency.
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Increases in Educational Attainment
• One reason that labor quality has increased is that the educational attainment of the
population (aged 25 and older) has
increased over time.
A higher amount capital increases labor productivity.
For example, one can dig more dirt per hour with a bulldozer than with a shovel.
Between 1959 and 1998, the amount of capital per worker hour went up by about 50 percent.
Increased Quantity of
Capital
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Increased efficiency can result from
Technological progress including improved capital and business
organization and managerial techniques.
Greater specialization as the result of scale economies.
Reallocation of labor from less productive to more productive sectors.
Changes in the legal, environmental conditions, public policy
For example, lower trade barriers.
Increased Efficiency
4. Cyclical Changes in
Productivity
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Labor productivity is procyclical.
Productivity rises in economic booms and falls during recessions.
Productivity is procyclical because
In a recession, a firm’s sales decline more rapidly than its units of labor
Some managers are a fixed cost of labor
Firms are reluctant to fire workers with specific training since they lose their training investment.
Business Cycle and
Productivity
Capital is not fully utilized during recessions and so productivity falls.
During recessions, demand falls the most in the high productivity durable
manufacturing goods sector.
The share of manufactured goods in total output falls, and so productivity falls
during recessions.
Business Cycle and
Productivity
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The fall in productivity during recessions makes them more severe.
The productivity decline raises unit labor costs, which lowers profits.
Lower profits decrease investment
spending which intensifies the downturn.
The reverse occurs during economic recoveries.
Implications
Cyclical changes in productivity also have implications for economic policy.
Declines in productivity contribute to cost-push inflation by raises unit labor costs.
A cyclical rise in productivity during the early stages of a recovery permits more expansionary policy since it lowers unit labor costs.
Implications
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Questions for Thought:
1. Describe and explain the cyclical changes that
occur in labor productivity. Of what significance
are these changes?
5. Productivity and
Employment
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Compensation rises more or less evenly across industries, even though output per hour varies greatly by industry.
Labor supply shifts prevent wages from diverging in the various industries.
This implies rising per unit costs and reduced output and employment in
industries with slow productivity growth, and falling per unit costs and output and employment in industries with high
productivity growth.
Demand Factors Constant
Productivity and
Employment, 1991-2001
• Variable demand factors confound the actual relationship between productivity growth and
employment within industries.
• The data reveal no systematic
relationship
between industry productivity growth
and industry
employment growth.
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Questions for Thought:
1. How do you account for the close correlation between changes in the rate of productivity
growth and changes in the real wage rates for the economy as a whole? Does this relationship also hold true on an industry-by-industry basis?
Explain.
6. The “New Economy”
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Labor Productivity
Growth Rates, 1948-2003
• Productivity growth surged in the second half of the 1990s, after being relatively low for the prior two decades.
• No consensus exists as to whether this
increase in the
productivity growth rate is a part of a new long-run trend or
simply a temporary aberration.
Faster increases in the quantity of
information such as computers may have increased productivity growth.
Oliner and Sichel's analysis indicates 63 percent of the acceleration in productivity growth between 1991-95 and 1996-2001 was due to increases in the use of
information technology
Increased spending on other capital
contributed very little to the acceleration in productivity.
Increased Use of Information
Capital
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Technological progress and efficiency, particularly in information technology, may have increased the productivity growth rate.
Oliner and Sichel find that 33 percent of the productivity speedup between 1991- 95 and 1996-2001 was due to increased efficiency in the production of
semiconductors
