Econ 101: Productivity

While I was doing my little morning commute a short little piece on NPR about the latest productivity numbers popped up.  In sum the US Q4 productivity number showed productivity up but by a very small amount.  In other words, productivity growth slowed.  Then there was a quote from economist Richard DeKaser of the Parthenon Group:

While strong productivity growth is usually good for the economy, there are times when slower productivity gains can also be helpful by contributing to jobs and income gains.

Which got me to thinking that, one, it is not clear to many people why productivity growth is a good thing in general if we care about jobs and two, how does productivity growth and employment relate in the short and long run.

First why it is good. The best way to conceptualize this is to use my favorite pedagogical tool, the "Robinson Crusoe" economy. Think of yourself stuck on a deserted tropical island. When first you land there you are terrible at catching fish, collecting coconuts, etc. Let's say you spend your entire day trying to do both and end up with one fish and two coconuts. Over time, however, you get better and better at it so that after a month you could spend your whole day doing both and end up with 20 fish and 50 coconuts. You have become much more productive and now you can consume more than you could before and you don't have to work all day to provide for your basic needs - you can consume more leisure.

This is a simplistic world (a model economy) but it generalizes quite well.  What do high income, high productivity economies look like as compared to low income, low productivity economies?  They have higher consumption (and not just of fancy electronics and stuff, but of quality health care, parks and clean air, education and so forth) and consume more leisure.  For the econ students out there, productivity increases move the production possibility frontier out.

Wealth also creates new investment, new demand and can lead to higher growth all of which is good for employment - new investment, demand and growth translates to new jobs.

So why does DeKaser suggest that slower productivity growth could be a good thing in the short run?  Well let's go back to the Crusoe economy and see that one natural aspect of increased productivity is the ability to spend more time relaxing on the beach and not fishing or climbing coconut trees.  But most Americans can just decide that they would like to work 36 hours this week instead of 40 and take 10% less pay, or take an extra week or two of vacation, etc.  In other words there are rigidities in the labor market that can mean that productivity gains accrue mostly to the currently employed.  When productivity growth is slower than the increase in demand there is only one solution, more workers.

Yes, this means less overall increase in prosperity, but a more widespread enjoyment of the current prosperity.  So while we like to see good productivity growth in general because it is the backbone of economic growth which is the driver of employment in the long run.  In a period of recovery where there is high unemployment but increasing demand, a little slow down in productivity growth might not be such a bad thing if what we are concerned about most is unemployment (which, I suggest, is the main concern right now).