INDICATOR: First Quarter Productivity

KEY DATA: Nonfarm Productivity: +2.2%; Unit Labor Costs: 2.2%

IN A NUTSHELL:   “Continued solid productivity gains should help businesses survive the current slowdown.”

WHAT IT MEANS:  American workers, you just got to love them.  They just seem to produce more and more and more.  That was the case in the first quarter of the year as fewer workers working fewer hours managed to produce more.  Output per worker rose solidly and it was needed.  While compensation soared, the solid productivity increase offset much of that gain.  As a result, unit labor costs, a key measure of the costs to produce goods, rose at a reasonable pace.  Indeed, because of the adjustments to the workforce and the continued strong labor performance, productivity accelerated from the pace set at the end of last year while costs eased.  While output in the manufacturing sector fell, hours worked needed to produce those goods dropped even more, driving sharp increases in productivity and an acceptable rise in costs.  There was one warning sign for consumer spending.  Compensation adjusted for inflation fell, the largest drop in almost thirteen years.  Without the money to spend, consumers will be pressed, even with rebate checks in the mail, to hold up their share of the economic burden.    

MARKETS AND FED POLICY IMPLICATIONS: The flexibility of firms to adjust to changing conditions was clearly shown in this report as even a major slowdown didn’t cause output per worker to fall.  Firms can and do now adjust their workforce in almost real time and that is critical in this uncertain environment.  With companies handling their largest expense, labor, so well, profits may not take a major hit this year.  They will not be good, but outside the financial sector, they are likely to have held up better than would be expected given the extended nature of the economic softening.  That should buoy equity investors as they look toward the second half of this year and into early 2009.  With labor costs not skyrocketing, the Fed should feel that widespread large price increases may not be in the cards.  That would allow the FOMC to keep rates stable as the members address the greater problem, the limited willingness to lend.