Labor Productivity is a Two Edged Sword

The productivity gains that the U.S. economy has achieved over the last twelve months have been nothing short of impressive. Through a combination of increased output and reduced hours worked, unit labor costs have been declining. In the tough world of economics, this is the way the system works.In a capitalist system, productivity gains are essential for long term success, for the ability to raise real wages and to increase standards of living. During periods of economic growth, it can be relatively easy to grow profits. Productivity often appears to be a bit of a luxury. Holding on to hard-to-find labor carries a higher priority than the marginal profit produced. Capital investment rises along with labor costs – a bit of a guns and butter approach, as profits are easy to achieve.But when the economy is in a recession, as it is today, the business of finding ways to reduce costs and squeeze profits out of diminishing revenues becomes a necessity. Management cuts the workforce, knowing that labor is cheap and easy to find. And lo and behold, marginal profit starts to increase.UPS is a case in point. The headline in this weekend’s Wall Street Journal read: “UPS Raises Profit Expectation”. The subtitle was: “Shipper Plans to Eliminate 1,800 Jobs…” That workforce reduction was in addition to the 13,000 jobs it cut in 2009. Despite a significant increase in its fourth quarter volume, as retailers panicked and decided to fill their shelves for the Christmas selling season, the company rationalized its new workforce reduction by pointing out the productivity it has been able to achieve through technology.The dilemma occurs when the economy bottoms out and starts to improve, a condition that appears to be emerging today in this country, and in many other countries around the world. Wary of the strength of the emerging economic resurgence, managements are loathe to hire laid off employees. So they push production harder and achieve even greater productivity. It looks like a virtuous cycle for capital. What is lacking is the benefit to sidelined human capital. The labor force is the last element to participate in the economic rebound.There is no reason to believe that this economic cycle will be any different. In fact, given the depth and breadth of the current recession, I believe that employment gains will be slower to emerge as the economy improves. This will be evident in a continued high level of unemployment even as profits continue to grow and revenues rebound during this year and next.The 10% official rate of current unemployment in the U.S. understates the true level, which includes all those workers who have been discouraged from seeking employment after months of endlessly searching. As the economy improves and those job seekers re-emerge, they will once again be counted in the statistics of the unemployed, further depressing the official Government rate of unemployment. The decline in a number of Federal Government stimulus programs will only exacerbate the situation.Expect the unemployment rate in the U.S. to stay high throughout this year. I will venture to say it will not likely go below 9%. I hope I am wrong.