Employment and productivity growth

Like clockwork, the National Post published yet again another article pointing out the bafflement of economists toward Canada's stubbornly weak productivity growth.  Of course, the dismay of economists is easily understood.  As the article points out, for years economists prescribed – and were able to persuade federal and provincial authorities to adopt – a series of remedies deemed necessary to improve the competitiveness of industry, including tax cuts, deregulation, free trade, low and stable inflation, government debt reduction and low interest rates.

All of these initiatives were intended to minimize the cost of business inputs, help the business sector become more competitive and improve overall productivity.  Essentially, the focus was on putting forth a set of so-called "market-friendly" policies that would provide the incentive for firms to operate in a leaner manner and to increase output.

After over a decade of considering productivity mainly a microeconomic problem and putting forth these "market-friendly" policies, it's safe to say that this approach to boosting productivity has been a failure.  And there is even evidence that the route taken by policymakers has been ill-advised.  Take, for instance, this excerpt from the 2007 OECD Employment Outlook, which offers a skeptical view on the effectiveness of these types of policies on productivity growth:

It has been claimed by some that only countries which emphasise market-oriented policies (characterised by limited welfare benefits and light regulation) may enjoy both successful employment performance and strong labour productivity growth simultaneously, unambiguously improving GDP per capita. This claim is not supported by the evidence in this chapter, however. (2007) (emphasis added)

Contrary to the microeconomic/market approach, my take is that productivity is very much a macroeconomic issue.  In this regard, I side with post-Keynesian economists Nicholas Kaldor and Robert Eisner, both of whom argued that the level of employment and the degree of competition in labour markets have an incidence on productivity and overall growth.  James Galbraith summarizes this point succinctly when he argues that

...full employment production foments ample competition in product markets, high rates of technical change, and declining costs, as business seek ways to save on scarce and expensive labor.  In other words, productivity growth accelerates because of full employment itself. (emphasis added)

Now, it's important to recognize that employment growth irrespective of the type of employment probably won't do much to increase productivity.  As highlighted in the OECD report cited above (and implied in the quote by Galbraith), the type of employment growth is a critical factor impacting on productivity.  For this reason, it is best if policymakers seek to prioritize employment growth in the manufacturing sector, the sector that is most amenable to improvements in productivity (see here for more on why manufacturing matters for productivity growth).

Furthermore, in the case of Canada, there is now evidence that the slowdown in productivity during the last decade – of which half originated in the manufacturing sector – was mostly caused by lower levels of capacity utilization (Baldwin et al., 2011).  From an exports standpoint, this means that growth in productivity could be achieved by increasing the external demand for Canadian products via a more competitive exchange rate. 

References

• Baldwin et al., Export Growth, Capacity Utilization and Productivity Growth: Evidence from Canadian Manufacturing Plants, Statistics Canada, Economic Analysis and Research Series, December 2011

• Galbraith, J.K. Fed Ache, Washington Monthly, July/August 2004

• OECD, More jobs but less productive? The impact of labour market policies on productivity, Employment Outlook, Chapter 2, 2007

Canadian-style austerity: Don't try this at home

Canada's Prime Minister, Stephen Harper, wants world leaders to believe that the Canadian approach to austerity is "what the world needs".  Obviously, Prime Minister Harper must be unaware that, since the fourth quarter of 2010 when real (total) government expenditures (outlays plus fixed capital formation) effectively peaked, the percentage change in final domestic demand in Canada has slowed significantly.  As shown in the chart below, growth in domestic demand is nearing recession-like levels (click on chart to enlarge).

Chart 1: Gross Domestic Product and demand, Canada, Source: Statistics Canada

The current slowdown in domestic demand should come as no surprise.  Cutting public sector expenditures in the face of weakening consumer spending and dwindling growth in business investment is hardly a sensible approach to economic policy-making (see chart 2).  And it would be a recipe for disaster for nations that, unlike Canada, cannot count on external demand to potentially fill the gap created by public sector expenditure cuts.

Chart 2: Components of final domestic demand, Source: Statistics Canada

Canada: Government deficit shrinks, Household sector deficit soars

Canada's first quarter 2012 National Income and Expenditure Accounts were released today.  Here's a brief summary, courtesy of Statistics Canada:

Real gross domestic product (GDP) rose 0.5% in the first quarter, the same pace as in the previous quarter. Business investment contributed the most to first-quarter GDP growth. Final domestic demand grew 0.3%. On a monthly basis, real GDP by industry edged up 0.1% in March.

As was the case throughout 2011, business investment continued to fuel growth. Business investment in plant and equipment advanced 1.2%, the ninth consecutive quarterly increase. Housing investment expanded 2.9%, well above the previous quarter's pace of 0.8%. Non-farm business inventories increased in the first quarter.

Consumer spending on goods and services, another main contributor to GDP growth in 2011, slowed to 0.2% in the first quarter of 2012, after a 0.7% gain in the previous quarter.

In the first quarter, final domestic demand advanced 0.3%. Growth in final domestic demand has been slowing since the first quarter of 2011. Average quarterly growth in final domestic demand was 0.5% in 2011, following 1.1% in 2010.

While exports have been increasing since the second quarter of 2011, they remain below the level reached in the third quarter of 2008. Exports grew 0.6% in the first quarter of 2012, after gaining 1.7% in the previous quarter.

Imports rose 1.1% in the first quarter, almost double the pace of the fourth quarter of 2011.

Growth of real gross domestic product and final domestic demand, Source: Statistics Canada

Two things. First, although the increase in employment in March and April will surely boost consumer spending in Q2, it's very unlikely that the economy will improve markedly for the remainder of the year.  The current slowdown in the US economy and weak European prospects will likely weigh down on both exports and business investment. Second, additional government cutbacks will continue to remove much needed demand from the economy, weakening both employment and growth.

Finally, one important piece of information that the statistical agency isn't highlighting in its summary is the massive increase in the household sector deficit during the first quarter.  According to today's figures, the household financial deficit (i.e., net borrowing or difference between quarterly sectoral spending minus revenue) increased by over $7B during Q1 ($42.5 to $49.4 B).  This is the highest level since the third quarter of 2008.  As for the public sector financial deficit, it has narrowed by approximately $9B ($66.6 to $55.1 B).

Source: Statistics Canada

In a previous post, I explained that the inverse relationship between the government sectoral balance and household sectoral balance is evidence that the goal of public sector deficit reduction is incompatible with the objective of eliminating the household sector financial deficit, one of the key priorities of the Governor of the Bank of Canada, Mark Carney.  More on this theme in my next post.