Productivity
Labor productivity growth usually increases during the early stage of a business-cycle recovery but then falls somewhat as the cycle matures. Early in this most recent expansion, productivity grew at a remarkable 3.9 percent annual rate for the years 2002 and 2003 and then slowed to a 2.6 percent annual rate for the years 2004 and 2005. Overall productivity has grown at a vigorous 3.1 percent annual rate from the business-cycle peak in the first quarter of 2001 until the third quarter of 2006.
Although 1995 has been regarded as a watershed year for productivity because of the acceleration of productivity from a 1.5 percent to a 2.4 percent annual rate of growth, the further acceleration to a 3.1 percent annual rate of growth during 2001 to 2006 is striking, especially given a flat or diminished contribution from capital deepening (the increase in capital services per hour worked). The 1995-2001 acceleration may be plausibly accounted for by a pickup in capital deepening and by increases in organizational capital, the investments businesses make to reorganize and restructure themselves, in this instance in response to newly installed information technology. In contrast, capital deepening does not explain any of the post-2001 increase in productivity growth. The post-2001 acceleration in productivity therefore appears to be accounted for by factors that are more difficult to measure than the quantity of capital, such as continuing improvements in technology and business practices.
Rather than assuming that the recent remarkable pace of productivity growth will continue, the Administration believes it is prudent to build a budget based on a forecast somewhat lower that the 3.1-percent pace of productivity growth since 2001. Productivity growth is projected to average 2.6 percent per year during the 6-year span of the budget projection- roughly equal to the average annual pace during the past decade.