In the Shoes of a Fed Policy-MakerFederal Reserve Bank of New York

What About Productivity?

Raymond W. StoneStone & McCarthy Research Associates

August 16, 2007

What Is Productivity?

Productivity is a measure of the efficiency of the labor force.

Productivity is a function of a variety of factors including the skill set of workers (education), and the state of the tools available to these workers (technology)

How Do We Measure Productivity?

Productivity is measured in terms of units of output per hour of labor input

Productivity = Output/Hours

A proxy for productivity might be GDP per Hour Worked

Productivity Proxy = GDP/Hours

Output Derived From GDP

Real GDP (bars) vs Nonfarm Output (%chg saar)

-3

-2

-1

0

1

2

3

4

5

6

7

8

9

10

11

Hours From The Employment Data

Hours Worked (bars) vs Productivity Measure Hours (%chg saar)

-5.0

-4.0

-3.0

-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

Why Do Policy-Makers Care About Productivity?

• Productivity Growth in Combination with Labor Force Growth Determines the Economy’s Trajectory of “Potential GDP”, the Speed Limit for Economic Growth

• Productivity Growth in Combination with Hourly Compensation Costs Determines “Unit Labor Costs”, a Key Factor Underpinning the Prospects for Inflation

• Productivity is a Critical Variable Influencing the Fed’s Ability to Fulfill the Dual Mandate of Maximum Sustainable Growth and Price Stability

Productivity and Maximum Sustainable Growth

The Trajectory of “Potential GDP” is Equal to the Growth Rate of the Labor Force Plus the

Growth Rate of Productivity

Economic “Speed-Limit”

Pot ent ia l versus Act ua l GDP(Cha ine d 2 0 0 0 $ , b lns, CBO e st im a te of Pote nt ia l GDP)

7000

8000

9000

10000

11000

12000

13000

Why Do We Care About Unit Labor Costs?

ULC and Core PCE Deflator (% chg from Year Earlier)

- 2 .0

- 1 .0

0 .0

1 .0

2 .0

3 .0

4 .0

5 .0

1 .0

1 .2

1 .4

1 .6

1 .8

2 .0

2 .2

2 .4

2 .6

ULC

Core PCE Deflator

What is Unit Labor Costs (ULC)?

• Definition: ULC = Labor Cost per Unit of Output

• Measurement: ULC = (Compensation/Hour)/Productivity

GDP Revisions Rendered Downward Revisions to Productivity

Nonfarm Product ivit y- - Prior t o Revision and Revised

110.0

112.5

115.0

117.5

120.0

122.5

125.0

127.5

130.0

132.5

135.0

137.5

140.0

Pr ior to Revision Revised

Current Topics

• Do the Downward Revisions to Productivity Suggest a Lower Trajectory for Potential GDP?

• Could Measurement Problems Be Providing a Distorted Productivity Picture?

• What is the Role of Demographics on Potential GDP?

Has the “Speed-Limit” Changed With Productivity Revisions: Policy Implications

Actual GDP vs Potential GDP

8000

8500

9000

9500

10000

10500

11000

11500

12000

12500

13000

CBO's Estim ate

3- 1/ 2% Growth Scenar io

2- 1/ 2% Growth Scenaro

Actual GDP

Productivity Measures Only As Good as Output and Hours : The Case of the Missing Hours

Are Const ruct ion Payrolls Oversta ted?

Residential Construction Payrolls (000s) vs Units Under Construction (000s)

2 5 0 0

2 6 0 0

2 7 0 0

2 8 0 0

2 9 0 0

3 0 0 0

3 1 0 0

3 2 0 0

3 3 0 0

3 4 0 0

3 5 0 0

9 0 0

1 0 0 0

1 1 0 0

1 2 0 0

1 3 0 0

1 4 0 0

1 5 0 0

The Role of the Unauthorized or Illegal Worker

Payrolls: Off & On The Books (Total), Official Estimate, Official Minus Illegally Documented

120000

122500

125000

127500

130000

132500

135000

137500

140000

142500

BLS Official Estim ate

BLS m inus illegally docum ented

total- - Off & On the Books

^

V|

|

"Off the Books"

^

v

fake

docum enatation

Did This Really Happen To Construction Productivity?

Constr uct ion Pr oduct iv ity ( y oy % chgs)

-10.0

-8.0

-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

8.0

Excluding Construction Has Productivity Really Slowed?

Nonfarm Productivity (%b Chg from year Ago)

- 1.0

0.0

1.0

2.0

3.0

4.0

5.0

6.0

Nonfarm X- Construction

Might An Aging Labor Force Slow the Trajectory of Potential GDP?

Labor Force Growth (%chg from Year-Ago Quarter)

-1.0

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0