Non-Farm Business Productivity Improves in 2010 – Is This Bad News?

According to the BLS, nonfarm business sector labor productivity increased at a 2.6 percent annual rate during the fourth quarter of 2010.   Part of the press release read as follows:

This gain in productivity reflects increases of 4.5 percent in output and 1.8 percent in hours worked. (All quarterly percent changes in this release are seasonally adjusted annual rates.) Productivity increased 1.7 percent over the last four quarters (chart 1, table A). Annual average productivity increased 3.6 percent from 2009 to 2010 (table C). Quarterly measures provide information on business cycles whereas annual measures are compared to long-term trends.

Labor productivity is calculated by dividing an index of real output by an index of the combined hours worked of all persons, including employees, proprietors, and unpaid family workers.

The key to interpretation of productivity comes from its definition.  The BLS definition:

Productivity: These productivity measures describe the relationship between real output and the labor time involved in its production. They show the changes from period to period in the amount of goods and services produced per hour. Although these measures relate output to hours at work of all persons engaged in a sector, they do not measure the specific contribution of labor, capital, or any other factor of production. Rather, they reflect the joint effects of many influences, including changes in technology; capital investment; level of output; utilization of capacity, energy, and materials; the organization of production; managerial skill; and the characteristics and effort of the work force.

There is no control if the unit of labor actually produces the exact same product with less work.  Major components can be outsourced (that were previously produced in house) – and the final product instead of being produced is simply assembled.  This does not meet the technical Industrial Engineering definition of productivity improvement, but is the simple accounting definition used by the BLS.

One clue that outsourcing is a major factor is the difference in productivity improvement between business and manufacturing.  When an activity is outsourced in a service business, there is no productivity gain or loss as the activity is no longer performed in house.  There should be only a small difference between business and manufacturing from an industrial engineering viewpoint, as both are automated or refined in similar ways.

There is no doubt that productivity improvements are occurring – and they must be for a myriad of competitive reasons.   If outsourcing masquerades as productivity improvements, it may be covering up deeper issues.

If the amount of outsourcing is larger in 2010 than other years, the true productivity improvement is likely to low.

Productivity is a double edged sword.  While improving productivity improves competitiveness, it also means that 1.7% less people were employed doing the same task.  With a private non-farm workforce of over 107 million – this equates to almost 2 million jobs evaporating in 2010.

Productivity improvement is part of a natural product life cycle.  Real employment growth  is driven by new products and services.  And the only way new products or services are produced in the USA (versus another country) is that business believes that this is the most profitable place.

Business is the golden goose – it needs a profitable bed to lie in.