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1 November 2017 CFA Institute Journal Review

Challenges to Mismeasurement Explanations for the US Productivity Slowdown (Digest Summary)

  1. Paul R. Rossi, CFA
The United States and many other developed economies have experienced a slowdown in labor productivity growth since 2005. Some have suggested that the growth rate is actually higher than what is being reported, claiming it is a mismeasurement. The data and subsequent analysis counter this idea and reveal that the slower US productivity levels are indeed real.

How Is This Research Useful to Practitioners?

The US productivity growth rate since World War II is frequently divided into four periods: 1947–1973, 1974–1994, 1995–2004, and 2005–2015. The 1947–73 period saw strong productivity growth (2.73% annualized), which was followed by a period of slower growth from 1974 to 1994 (1.54%). The 1995–2004 period experienced unprecedented growth—2.85%—the strongest productivity growth of all four periods. During 2005–2015, labor productivity growth dropped to 1.27%, less than half that of the prior period and the lowest level of all the periods observed.

There is much debate surrounding what factors explain the recent productivity slowdown. Prior researchers have suggested that the 1995–2004 period of elevated growth was more of a one-off aberration resulting from the manufacture and dispersion of new information and communication technologies; thus, such productivity gains should not be expected to return. Counterarguments suggest that potential innovation opportunities arising from multiple sectors concurrently could reinvigorate productivity; therefore, 1995–2004 does not have to stand alone. Others have argued that lower productivity growth is a byproduct of the global financial crisis. The rebuttal to this argument is that the slowdown in productivity started prior to the Great Recession and is not tied to the collapse of the housing market or the financial sector but is instead simply a reversion to an earlier period of lower growth. If this theory is accurate, it would imply that the most recent period of lower growth is not cyclical but structural in nature.

Some believe that the more recent slowdown in labor productivity is actually illusionary, a theory the author calls the “mismeasurement hypothesis”—that is, productivity gains have not been correctly captured in business labor statistics, either because the utility of new information and communication technology products is not accurately reflected in output growth or because the price deflators of these new products are overstated.

The author quantitatively examines the validity of the mismeasurement hypothesis and puts forward evidence that challenges this idea. US GDP in 2015 was measured at $18.04 trillion. Were it not for the recent slower productivity growth period, total GDP would have been approximately $3 trillion higher, which equates to $9,300 for every person or $24,100 for every household in the United States.

First, the productivity slowdown in the United States occurred at about the same time in at least two dozen other developed economies around the world, which supports the idea that the US productivity slowdown is real and not illusionary. Other countries have been experiencing the same problem.

Second, information technology (i.e., the internet) could create a large consumer surplus with little revenue, but the estimates of the value of the internet-linked technologies are an order of magnitude less than the approximately $3 trillion dollars of measured loss that would be needed to support the mismeasurement hypothesis.

Third, if the information and communication technology industries were responsible for the mismeasurement hypothesis, the implied change in real revenue would be five times greater than their measured revenue change, which the author finds is not the case.

Fourth, gross domestic income (GDI) and GDP are conceptually equal, yet measured GDI has outpaced GDP by an average of 0.4% a year since 2004. This figure would be consistent with workers being paid to produce goods that are being given away or sold at steep discounts, supporting the mechanism behind the mismeasurement idea. However, the data show that the discrepancy between GDI and GDP goes back to 1998—a period of strong productivity growth—which is inconsistent with the mismeasurement hypothesis.

Analyzing the data, the author provides strong evidence refuting the mismeasurement hypothesis. Other researchers using different methods and data have come to the same conclusion—namely, that the productivity slowdown since 2005 is real.

How Did the Author Conduct This Research?

The data come from the US Bureau of Labor Statistics; in addition, the author uses OECD labor productivity growth data. The OECD provides yearly percentage changes in real GDP with respect to worker hours.

Abstractor’s Viewpoint

The analysis of the data supports a real slowdown in labor productivity. The important question now is, What can we do to improve productivity growth rates? Additionally, is it possible for the US economy or other major developed economies to grow at rates previously seen, or should we expect this lower level to be the “new normal”?

Although it is difficult to predict what growth rates will be in the future, I would not bet against the continued march forward toward increasing productivity levels as current and future technologies emerge, not the least of which is artificial intelligence (AI), which will become more ubiquitous over time. The widespread use of technology will be far-reaching and have a dramatic impact on growth.

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