Productivity Growth, Job Creation By Occupation, And Some Implications For Investors

by: Martin Lowy


Productivity growth has declined.

The shift from manufacturing to services has been part of that decline.

Easy credit cannot increase productivity.

A more educated workforce can increase productivity.

Lower productivity gains suggest that investing will be difficult for the near future.

The engines of GDP growth are productivity and worker hours. That is not a matter of theory. It is a matter of definition because productivity is derived by dividing GDP by worker hours. To achieve GDP growth, therefore, one or both of these factors have to increase.

The recent economic data have shown substantial increases in the number of hours worked and in the number of people that are working them, but productivity has lagged or declined (as has income per hour worked). See here for example. Recent scholarly work also has tended to debunk the theory that productivity is mis-measured because it fails to take account of free goods and services that the digital revolution has produced. SeeTyler Cowen in the New York Times and a recent WSJstory, for example. (I have not yet read the underlying scholarly papers.)

Therefore we are left with a puzzle as to why productivity has stagnated. Here are two charts from the BLS (Bureau of Labor Statistics) that illustrate the growth slowdown in the official statistics.

The BLS data do not seem to show anything very striking.

But here is a graph from economist Noah Smith that suggests that the stagnation goes back a long way and does not apply to the manufacturing sector. See discussion of it here. "Nondurables" includes services. "Durables" is almost all of manufacturing, according to the discussion.

This graph strongly suggests that non-manufacturing productivity has grown very little since the mid-1970s. And the "total" has grown at a slowing rate as services gradually have become a larger part of the total economy. What kinds of jobs are created obviously makes a great deal of difference to measured productivity.

(I note that the flatlining of nondurables productivity coincided with two important demographic phenomena: The decline of boys' educational achievement and the entry of more women into the workforce. See the chart of jobs that are growing now that is set out below.)

Where do productivity gains come from?

Classically, investment produces productivity gains. That is, investment in new plant and equipment and in research and development leads to efficiencies and technological advances. Therefore we want to know whether investment has stagnated-or worse has declined.

A great deal has been made of the fact that corporations, American corporations in particular, have not been reinvesting profits in their businesses, but rather have been buying back their stock or making acquisitions. Concomitantly, a great deal of the credit that has been advanced over the last decade (by banks and by the capital markets) has been used for those two purposes and, similarly, for leveraged buyouts. None of those uses should, theoretically, produce great leaps forward in productivity, though they might create some economies of scale or some better use of resources. Therefore, from the point of view of economic progress, the three described uses are more or less neutral.

Do those uses of credit crowd out other, more productive uses of credit? That is, would banks and the capital markets lend for new plant and equipment and R&D in greater amounts if they were not supplying credit to the "neutral three uses"?

I have a hard time thinking that the neutral three uses prevent credit from being granted for more productivity-enhancing uses. I have two main reasons in mind: (1) The world is awash in funds looking for productive places to invest. (2) Plant and equipment is a relatively minor part of American businesses today, commercial real estate is in many places already overbuilt, and R&D seldom is funded by debt and should not be funded by debt.

If I am correct, then inducing banks and the capital markets to advance more credit is likely to continue to contribute to higher asset prices. It is unlikely to lead to enhanced productivity.

But additional credit may lead to more construction of houses, office buildings and shopping centers because the cost of such building declines and the prices at which they can be sold increases as the cost of credit declines. Unfortunately, that process always eventually leads to overbuilding and a price collapse. I have written about that process recently here and here. Basically, credit-induced economic growth takes place mainly where there is collateral, which is mainly in real estate, and real estate construction is not a high-productivity activity. Therefore observed productivity suffers and, eventually, there is a mis-allocation of resources toward real estate construction which, when it becomes evident, leads to a serious price decline.

Moreover, job growth over the last few years (and as projected by the Department of Labor) is not in high-productivity occupations. Indeed, it has been and is projected to be in occupations that are one-on-one or otherwise resistant to mechanization or outsourcing, as the following chart from the Department of Labor shows.

These conclusions have many implications. Here are a few of them:

1. After seven years of low interest rates, reducing interest rates no longer can productively spur the U.S. economy.

2. Productivity cannot be gained by easy credit.

3. The jobs that the U.S. economy is creating tend to reduce overall productivity, as it is measured.

4. That does not mean it is bad to create those jobs. It simply means that we have to understand what the numbers mean and do not mean.

5. Creating better jobs cannot be induced by easy credit.

6. My slight leap of faith is that more highly qualified workers will lead to better jobs. I say that because for all of American history, it has been true. The new, better jobs may not come immediately, but they will come because the capacity to do them will exist.

7. If I am correct, then education is the key to long-term success of the U.S. economy and to improving the lives of our citizens. The children of the well-off will get that education regardless of what kind of education policy we have. Policies to help the children of the less affluent achieve high educational goals are the key to reducing inequality and to restoring inter-generational fairness.

I admit that this article is merely a sketch of some very large ideas, but sketches are useful because one can see the ideas as a whole.

Is there an investment thesis lurking here?

For investors, my take is that we should not expect high returns that require increased overall productivity in the next decade. I am always bullish on America, but investment returns are likely to be more concentrated in a few sectors and to depend on timing and selection more than most of us would like. Value and growth mindsets both can succeed, but wishful thinking will suffer even more than usual, and extreme diversification is likely to lead to relative safety but low performance by historical standards.

Investing anywhere but the U.S. will continue to be, in my view, riskier. It will have its rewards if you are right, but its downside seems substantial to me.

I expect the Fed to be less relevant than usual for a few years. I know that is sacrilege. But I believe that after so many years of extreme policies, it now controls only at the margins. Value will have to be created by profits and cashflow of individual companies and managements.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.