February 2, 2012 08:30 ET

Highlights
Productivity growth slowed in the fourth quarter despite a gain in output as hours worked rose faster. Nonfarm business productivity eased to an annualized 0.7 percent in the fourth quarter after gaining 1.9 percent in the previous quarter. Expectations were for a 0.8 percent rise for the fourth quarter. The output component improved to 3.6 percent from 2.8 percent in the third quarter. However, hours worked increased an annualized 2.9 percent after a 0.9 percent gain the third quarter. In turn, unit labor costs rebounded an annualized 1.2 percent, following a 2.1 percent decrease in the third quarter. The consensus forecast was for a 1.0 percent increase.

Productivity and unit labor costs are volatile on a quarterly basis. The headline numbers appear to have worsened but the key driver was a boost in hours worked and this is good for the economy. Long-term trends for productivity and unit labor costs remain on track and are favorable.

Market Consensus Before Announcement
Nonfarm business productivity for the third quarter was revised down to a 2.3 percent rise, compared to the initial estimate of 3.1 percent and a 0.1 percent dip in the second quarter. The output component was revised down to a gain of 3.2 percent from the original 3.8 percent. Hours worked were nudged up to a 0.8 percent annualized increased from the original 0.6 percent. Unit labor costs were revised to an annualized 2.5 percent decrease, compared to the first estimate of a 2.4 percent drop.

Definition
Productivity measures the growth of labor efficiency in producing the economys goods and services. Unit labor costs reflect the labor costs of producing each unit of output. Both are followed as indicators of future inflationary trends.

Description
Productivity growth is critical because it allows for higher wages and faster economic growth without inflationary consequences. In periods of robust economic growth, productivity ensures that inflation will remain well behaved despite tight labor markets. Productivity growth is also a key factor in helping to increase the overall wealth of an economy since real wage gains can be made when workers are more productive per hour.

Productivity and labor cost trends have varied over the decades. In the late 1990s, some economists asserted that dramatic productivity advances (based on new technologies) were then allowing the economy to sustain a much faster pace of growth than previously thought possible. Initially, some Fed officials expressed skepticism but later decided that productivity gains had helped boost economic growth and potential GDP growth during the 1990s. That is, the economy could grow faster than previously believed without igniting inflation.

Determining the source of productivity gains has become trickier over the last decade as new technology continues to be incorporated into production - not just in the U.S. but overseas also. Similarly, retraining U.S. workers has been sporadic. Not just low skill jobs are outsourced but now many highly skilled jobs such as programming and accounting are as well. Nonetheless, highly skilled professional jobs have been increasingly difficult to fill during times of high demand. Despite the cross currents in labor market trends, long-term productivity gains are important for maintaining growth in labor income and keeping inflation low.

But in the short-term, output and hours worked can shift sharply just due to cyclical swings in the economy. During the onset of recession, output typically falls before hours worked. This can result in a temporary drop in productivity and a spike in unit labor costs. So, while long-term productivity determines the "speed limit" for long-term growth, one should not be misled by short-term cyclical gyrations in productivity numbers as reflecting the true, underlying trend.

Frequency
Quarterly.

Source
Bureau of Labor Statistics (BLS), U.S. Department of Labor.

Availability
First week of release months. First estimates released February, May, August, and September. Revised estimates released March, June, September, and December.

Coverage
Data are for quarter prior to quarter of the release. Data for first quarter first estimates are released in May. Data for first quarter revised estimates are released in June.

Revisions
Yes.