Productivity Growth and Employment

More rapid productivity growth leads to higher rather than lower employment in manufacturing.

Productivity growth in the United States has rebounded sharply over the past decade, after the disappointingly sluggish growth in the prior two decades. But stronger productivity growth has coincided with sharply declining manufacturing employment, leading some analysts to suggest that the rise in U.S. productivity growth may have destroyed jobs, as companies need fewer workers to produce the same amount of output.

A recent NBER Working Paper by William Nordhaus investigates the productivity rebound along with the relationship between productivity growth and employment in manufacturing. In The Sources of the Productivity Rebound and the Manufacturing Employment Puzzle (NBER Working Paper No. 11354), Nordhaus looks at detailed industrial productivity and employment data for almost 60 years, with the focus on the U.S. productivity renaissance since 1995.

Based on a range of measures, U.S. productivity growth has averaged 2 to 3 percent per year in the period 1995-2004, compared with less than 1.5 percent per year from 1973 to 1995. The strong productivity growth of the past decade is comparable with the 1948-73 period. The two peak years in the recent period have equalled the peaks of the earlier 1948-73 period. The improvement in productivity growth has survived the stock market bust of 2000, the subsequent decline in investment, a recession, rising fiscal deficits, wars, and skyrocketing oil prices.

About 40 percent of the rebound in productivity growth has been concentrated in "New Economy" industries. But there has also been rapid productivity growth in areas such as retailing and wholesaling, financial services - including securities and insurance - and real estate. The government and construction sectors have seen no productivity growth.

In addition, Nordhaus uses detailed data on productivity and employment to study the relationship between productivity shocks and employment changes in manufacturing. In the paper, Nordhaus uses a number of datasets on industrial production and productivity, and a range of econometric tests, to examine the relationship between productivity and employment. Examining the relevant "elasticities" between employment and productivity growth, he shows that more rapid productivity growth leads to higher rather than lower employment in manufacturing. This shows up most sharply for the most recent period, since 1998.

For individual companies or industries, higher productivity growth may lead to a loss of jobs, Nordhaus says, citing the example of the decline in employment in the typewriter manufacturing industry following the advent of the personal computer. But from the perspective of manufacturing as a whole, or of major manufacturing industries, the lower prices that result from higher productivity have increased demand growth and more than offset the employment-lowering effect of higher productivity.

It appears that the cause of lower manufacturing employment over the last decade is not higher productivity growth in the United States, Nordhaus says. Rather, the source is likely to be higher productivity growth, and more pronounced price declines, among foreign manufacturers that compete with U.S. companies. In China in particular, productivity has been rising and costs have been declining more rapidly than in the United States - particularly in industries such as consumer electronics and apparel, where China did not compete with the United States two decades ago.

The results in this paper suggest that productivity is not to be feared -- at least not in manufacturing, where the largest recent employment declines have occurred, Nordhaus says

-- Andrew Balls