Productivity Skyrockets

Productivity growth rocketed upward in Q3 as nonfarm business production rose 9.5% quarter-over-quarter annualized. The consensus expected production to increase only 6.5%. Productivity in Q2 was revised up from 6.6% to 6.9%.

Typically, when productivity reaches 3.0% firms start hiring workers. This was not the case in either Q2 or Q3.

The jump in productivity was the combination of positive output, which we saw in the positive GDP report, and a continued drop in hours worked.

The increase in output (4.0%) looks strong on paper, but the details tell of a much weaker economy. Output has fallen from a peak level in Q4 2007, which is when the recession started, to a low found in Q2 2009. However, the jump in production in Q3 only brought output back to levels last seen in Q4 2005.

To produce at those levels found in late 2005, aggregate worker hours were 8.2% higher than they are currently.

Given this data, it would be expected that firms will need to hire more workers in order to maintain this level of output. However, productivity levels in Q4 2005 were 9.0% less than Q3 2009. The difference in productivity may not necessarily be due to workers being overworked in 2009 but due to firms carrying excess labor in 2005.

Remember, since the recession has started firms have regained profitability by shedding excess costs, including large amounts of unneeded labor. There is no guarantee that these workers "need" to be rehired to maintain current production. We may need to see bigger jumps in the output before labor growth begins.

Inflation seems weak in the near future. Real wage growth continues to be constrained due to stiff competition for jobs as wages only increased 0.2%.

Nonfarm business costs remain low and profitability remains high as unit labor costs declined for the third consecutive month. Unit labor costs dropped 5.2% quarter-over-quarter in Q3 compared to a drop of 6.1% in Q2.

Unit non-labor costs rose 10.0% after increasing 8.5% in Q2.