To economists, strong productivity growth provides an almost magical elixir. When companies roll out more efficient technology, their workers can become more productive: They increase their output per hour. A result is that companies can often boost profits and raise pay without having to jack up prices. Inflation can remain in check.
The Fed’s aggressive streak of rate hikes — 11 of them starting in March 2022 — managed to bring inflation from a four-decade high of 9.1% to 3.1%. But to the surprise to the economists who’d forecast a recession, the higher borrowing costs have caused little economic hardship.
Perhaps the likeliest explanation is the greater efficiencies that companies have managed to achieve. Before productivity began its resurgent growth last year, a rule of thumb was that average hourly pay could rise no more than 3.5% annually for inflation to stay within the Fed’s 2% target. That would mean that today’s roughly 4% average annual pay growth would have to shrink. Higher productivity means there’s now more leeway for wage growth to stay elevated without igniting inflation.
The productivity boom marks a shift from the pre-pandemic years, when annual productivity growth averaged a tepid 1.5%. Everything changed as the economy rocketed out of the 2020 pandemic recession with unexpected vigour, and businesses struggled to re-hire the many workers they had shed.
The resulting worker shortage sent wages surging. Inflation jumped, too, as factories and ports buckled under the strain of rising consumer orders.
Desperate, many companies turned to automation. The efficiency payoff began to arrive almost a year ago. Labour productivity rose at a 3.6% annual pace from last April through June, 4.9% from July through September and 3.2% from October through December.
Many economists and business people say they’re hopeful that the productivity boom can continue. Artificial intelligence, they note, is only beginning to penetrate factory floors, warehouses, stores and offices and could accelerate efficiency gains.
Automation raises fears that machines will replace human workers, killing jobs. Some workers supplanted by robots do often struggle to find new work and end up settling for lower pay.
Yet history suggests that in the long run, technological improvements actually create more jobs than they destroy. People are needed to build, upgrade, repair and operate sophisticated machines. Some displaced workers are trained to shift into such jobs. And that transition is likely to be eased this time by the retirement of the vast baby boom generation, which is causing labor shortages.
Some of today’s productivity gains may be coming not just from advanced technology but also from more satisfied workers. The tight labour markets of the past three years allowed Americans to change jobs and find others that pay better and make them happier and more productive.
