Eventually, government policymakers came to believe that the New Economy had reversed the productivity decline. In the 1990s, the trend rate of productivity rose to 2.5 percent. This allowed the Fed to run a looser monetary policy than it otherwise would have been able to. This fueled the stock market boom, which provided capital for myriad new technology companies, which in turn underpinned the New Economy and continued to raise productivity.
The problem we are facing now is that while rising productivity raises living standards, it can also mean that fewer workers are needed to maintain output at the same level. So in a time of slack demand, as we have now, there are fewer jobs available. Indeed, high productivity is at the base of the jobless recovery we are experiencing.
A review of recent recessions shows that there has been a change in the behavior of productivity. Historically, a sharp drop in productivity preceded recessions, as employers kept workers on even as output fell. Productivity rose after the recession mainly because employers were reluctant to hire as output increased. Thus, in the six quarters preceding the trough of the 1973-75 recession, there was zero increase in productivity during that whole period. In the six quarters before the 1981-82 recession, the total increase in productivity was just 0.8 percent. In the six quarters after the trough, productivity rose by 5.9 percent in both cases.
This started to change with the 1990-91 recession. Productivity rose by 1.2 percent going into the recession and 4.5 percent coming out. The higher productivity going in meant that fewer workers were needed coming out of the recession. Now, in the current recession, which ended in the fourth quarter of 2001, we have seen even higher productivity on either side. The latest data show an increase in productivity of 4 percent in the six quarters before and 6.5 percent in the six quarters after. That is why employment growth and hiring levels remain weak. Employers are raising output without adding much new labor.
It is important to remember that this is a short-run phenomenon. In the long run, higher productivity increases employment, a fact documented in two new studies from the Federal Reserve Bank of Richmond and the Federal Reserve Bank of San Francisco. But in the meantime, employment growth may still be slow for a couple more months.
Bruce Bartlett is a former senior fellow with the National Center for Policy Analysis of Dallas, Texas. Bartlett is a prolific author, having published over 900 articles in national publications, and prominent magazines and published four books, including Reaganomics: Supply-Side Economics in Action.
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