September 3, 2001

 

Notions of New Economy Hinge on Pace of Productivity Growth

 

By LOUIS UCHITELLE

 

JACKSON HOLE, Wyo., Sept. 2 — Rising  prosperity still bathed the nation a year ago when Alan Greenspan opened the annual symposium of Federal Reserve policy makers in this mountain resort with a confident boast that the strong gains in worker productivity that seemed to underlie the robust expansion of the 1990's would continue.

 

That contention appears to haunt him today. The

nation's boom has collapsed despite the faith of Mr. Greenspan, the Fed chairman, that the ever-greater

efficiencies of the information age would keep on raising profits, incomes and employment at a healthy pace.

Instead, the nation is barely skirting a recession, stock prices have fallen, the budget surplus is shrinking and

the new economy is losing its charm.

 

Adding injury to insult, the government just last month took the accelerating productivity figures that Mr.

Greenspan cited so proudly a year ago and revised them downward. Instead of growing at an annual rate of

3.4 percent in 1999 and 2000, productivity — the amount that a worker produces in a hour — grew at a

significantly slower rate of 2.6 percent a year during the best years of the economic boom.

 

"He must have an awful lot of egg on his face," Dean Baker, co-director of the Center for Economic and

Policy Research, said in a telephone interview from Washington.

 

But don't tell that to Mr. Greenspan. With the Fed's leadership once again

gathered here for this year's symposium, the message remained upbeat for

the 100 or so experts from government, academia and Wall Street who were

invited here. Most expressed their confidence that the vast changes wrought

by computer technology are providing a solid foundation for long-run

prosperity.

 

And despite the new figures casting doubt on some of those views, the

general mood was that the new economy — promising strong growth with

little inflation — would endure once the current slowdown ends.

 

"The preponderance of evidence suggests a continual increase in productivity

growth," Lawrence H. Summers, president of Harvard University and

Treasury secretary in the administration of President Bill Clinton, declared in

an interview here, reaffirming Mr. Greenspan's optimism a year ago.

 

Mr. Greenspan himself sat through the conference sessions in silence, but he

has made clear to other Fed policy makers that he still believes that the

productivity miracle is alive and well.

 

Still, the latest government figures gave ammunition to critics who have long argued that the rapid productivity

gains reported in the late 1990's were more of a mirage caused in part by unsustainable business investment.

That also led to a spurt in growth that temporarily forced companies to use labor more efficiently.

 

Much is at stake in this debate. The optimists think that the productivity growth rate will stay above 2.5

percent annually over the long run. The pessimists, by contrast, think that the improvement has been more

mundane, more like the 2 percent that the government now says is the average annual rate since 1990.

 

The impact of that seemingly small gap is enormous. Productivity is the principal contributor to economic

growth. It determines whether corporate revenue is rising fast enough to increase wages and profits. When

there is enough revenue and profit from productivity, companies are under less pressure to raise prices, so

there is less inflation.

 

Similarly important, the government's projection that it will accumulate a $3.4 trillion budget surplus between

now and 2011 relies on a rate of productivity growth of at least 2.5 percent. A more modest gain of 2 percent

would mean that the surplus would be roughly $800 billion lower, according to Dan Crippen, director of the

Congressional Budget Office.

 

Mr. Crippen, in a telephone interview from Washington, noted that $800 billion is enough to pay for all of the

nation's military expenses for two years and to cover prescription drugs for the elderly for more than a

decade. "Probably the biggest uncertainty in our projections is whether the increase in productivity is

sustainable," he said.

 

Mr. Greenspan has argued that an accelerating rate of productivity growth is the chief explanation for the

boom that started in the mid- 1990's as American companies increased their investments in computer-based

information technologies, including the Internet. The productivity growth rate measures the increase in output

from each hour of work. From that increase, companies are able to generate higher revenue, adding to profits

and to wages for workers without having to raise prices. Profits and wages did in fact rise for nearly five

years. The prosperity was real.

 

But now that the boom has collapsed into sluggish growth, productivity's contribution to that prosperity is

uncertain. The revised productivity figures suggest that temporary factors — an exuberant stock market,

excessive business investment, a surge in debt-financed consumer spending, for example — all played

important roles. The Fed's conference here was the first high-powered challenge to a growing view that the

new economy lacks staying power.

 

"There is a lot at stake," said Martin N. Baily, a senior fellow at the Institute for International Economics and a

former chairman of President Clinton's Council of Economic Advisers, who presented a paper at the

conference. "Profits will not be as strong, and with less profits business investment in the new technologies will

not be as strong and the stock market won't be strong."

 

There were some skeptics here. One of them, Henry Kaufman, a Wall Street economist and consultant, says

that Mr. Greenspan, having committed himself to the idea of accelerating productivity, cannot easily get off

that horse without frightening the markets.

 

But Mr. Kaufman's dissent was distinctly in the minority. Mr. Summers, co-author of a paper presented here,

spoke for the majority, and so did Martin Feldstein, a Harvard economist who served for a while as President

Ronald Reagan's chief economic adviser.

 

"The key question is whether productivity at 2.5 percent is going to continue," Mr. Feldstein said at the final

session, summarizing the conference's findings. "My answer is yes. You cannot know this just by looking at

the data; you have to look at the economy itself. The information revolution is going to keep us going."

 

The main argument for those who are optimistic about productivity centers on the belief that hundreds of

thousands of companies outside the high-technology sector are still in the process of incorporating the new

technologies and changing their practices. They think that these companies have considerable room to

improve their efficiency.

 

But a few experts worry that the efficiencies might be slow in coming. "I cannot say that the optimists are

wrong," Mr. Baily said. "I can only say that if I were planning the future, I would count on only 2 percent."

 

The overall economy can grow and generate prosperity only as fast as the work force itself grows and each

worker increases his or her output. The working-age population is expanding at barely 1 percent a year, so

most of the nation's gain in prosperity must come from productivity.

 

Mr. Greenspan has spoken of a potential growth rate of 3.5 percent to 4 percent a year. His critics — those

who doubt that the computer- based technologies are all that special — see 3 percent, or slightly less, as the

limit for economic growth.

 

Whatever the truth, embracing the higher figure gave Mr. Greenspan justification to hold down interest rates

even as the economy surged — and to cut rates quickly as the slowdown developed. After all, why turn off

the boom to fight an inflationary threat that may never materialize?

 

"There is no question," Mr. Baily said, "that if you believe in the new economy, it lowers your estimate of what

inflation will be. That has given the Fed the freedom to act aggressively in cutting interest rates, and the

freedom to keep rates down when the upturn finally comes."

 

But what if those assumptions prove too optimistic? The Congressional Budget Office produced the

budget-surplus projections that the Bush administration has cited to justify its $1.3 trillion tax cut. Those who

want to privatize a part of Social Security would tap the surplus to help pay the costs.

 

So far, in making its projections, the budget office has tilted toward the Greenspan camp. It assumed, in its

latest revisions announced last week, that productivity would grow at a 2.5 percent annual rate for the next 10

years, down only slightly from its earlier projection of 2.7 percent, but well above the 1.4 percent average

rate of productivity growth from 1973 to 1995.

 

"Last January, we bought into some aspects of the new economy," Mr. Crippen said. "We did not buy into all

of it. Historically speaking, our assumptions are not abnormally high."