First Quarter 2014 Productivity and Unit Labor Costs

Between January and the end of March, weather impacted many of the indicators Atlas follows.  Hopefully, the Bureau of Labor Statistics’ report on Productivity and Unit Labor Costs was no exception because it looks lousy.  Output per labor hour fell 1.7 percent on an annualized basis in the first three months of 2014, giving back a large portion of the 2.3 percent gain to end 2013.  Also, labor costs to produce each unit of output increased in the period by 4.2 percent which was partly due to increased compensation.

Two catalysts caused the labor unit costs to grow so quickly.  First, the number of hours worked grew faster than output increased.  Aggregate hours worked by American employees grew by 2.0 percent, but there was only 0.3 percent more output in the same period.  Leaving everything else equal, when hours worked increase faster than output grows, each unit of production will have more labor costs imbedded in it.  However, in the first quarter, everything else was not equal.  You see, compensation grew by 2.4 percent on an annualized basis in the quarter.  So not only did it take incrementally more labor to create each unit of output, but each labor hour cost more.

The combination of slower output growth, increasing hours worked, and improving compensation could converge to create an environment with higher inflation than has been normal during this recovery.  This is why the weather’s involvement is so important.  If the weather kept output from growing, a second quarter surge in output per hour may absorb the additional costs needed to generate each unit of output in the first three months of 2014.  However, if weather is only responsible for some of the slowdown in productivity’s growth, then the increased hours worked and compensation per hour may be combining to create inflation as the costs of production increases and more money is moving through the economy because of the higher wages.  Unfortunately, this indicator is quarterly, so we will have to wait until August to get data on the current quarter.  There will be revisions to the first quarter data so look for that posting in a month or so.          (by C. Cox)