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"Productivity Puzzles and the Recovery"

Summary of remarks by
Martin Neil Baily, Senior Fellow
Brookings Institution
March 29, 2012

The decline in manufacturing employment over the past two decades has long been viewed as akin to the 20th Century decline in agricultural employment as new labor saving technologies improved productivity dramatically.  Recently, significant criticisms of this theory have arisen, starting with Bill Nordhaus at a 2004 Brookings Institution conference, and more recently with the claims of Rob Atkinson and others that manufacturing output has been overstated by failing to properly value imported electronic components.

In last spring's Journal of Economic Perspectives, Susan Houseman et. al. estimated the bias in productivity estimates at between 0.2% and 0.5% annuallyThe shift to foreign components is real, but not uniform.  Auto wiring harnesses are now made in Mexico, and labor intensive assembly of electronics and manufactured goods have moved offshore, but China doesn't supply components to our original equipment manufacturers.  There is measurement bias when WalMart takes market share, and the Bureau of Labor Statistics counts those sales as it would with any new outlet, when in fact WalMart's supply chain control has lowered prices.

However, Baily is not convinced that the productivity theory has been refuted.  All advanced economies have had manufacturing employment declines, and the United States decline is in line those.  Japan and Germany adopted labor saving policies and increased subsidies during the 2000 and 2008 recessions, while U.S. employers shed labor as soon as sales declined.  Baily noted, "It's not clear we should look like Japan and Germany."  Our failure to save and invest and a relatively strong dollar had a lot to do with our manufacturing decline.  Tackling our federal deficit, not now because so much slack remains in the economy, but in the medium and long-term, and a weaker dollar would go a long way toward restoring our manufacturing sector.  Our education system has failed to supply the skilled workers we need also.

Manufacturing and construction are more cyclical than other sectors of our economy.  During the post-war recessions up to 1990, output in those industries grew rapidly during recoveries, but since 1990, output has not recovered. Last Monday, in a speech to the National Association of Business Economics, Fed Chair Ben Bernanke addressed the conundrum of recent hiring which has not been matched by GDP growth.  His chart showed large deviations from Okun's Law, although recent hiring may offset to large layoffs in 2008.  More research is needed.

Finally, Baily rejected charges that overregulation has throttled manufacturing.  He serves on the audit committee of a large corporation and has seen first hand the costs of complying with Sarbanes-Oxley and Dodd-Frank, but those effects seem small.  The same is true of EPA environmental regulations.  It's possible that rising health care costs have played a larger role than regulations have, but they still rank much lower than our failure to save and invest.

Martin Neil Baily is a senior fellow in the Economic Studies Program and holds the Bernard L. Schwartz Chair in Economic Policy Development. He is the Director of the Initiative on Business and Public Policy and co-leads the All-Brookings Priority on “Growth through Innovation.”

Rapporteur: Pete Davis





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