South-Western College Publishing - Economics  
Not As Bad As First Thought
Topic Productivity and Growth
Key Words Revised Data, Labor Costs, and Productivity
Full Article

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Reference ID: A155531980

News Story Policy prognostication often begins with first available data on various elements of the economy. However, as time goes by the data is revised and it may give differing results than at first. This is the case of a recent report released by the Labor Department.

In an earlier report, the Labor Department reported that unit labor costs, a measure of what workers earn that takes into account labor productivity, rose by 3.8 percent in the third quarter. Economists interpret this number to indicate an increasing inflationary pressure on the economy. As policy makers at the Federal Reserve often warn, growth in workers' wages and compensation is a threat to push consumer prices higher if businesses pass the higher labor cost on to consumers. Textbooks refer to this phenomenon as cost-push inflation.

As Federal Reserve chairman Ben S. Bernanke warned only a week earlier, the Fed would be more inclined to raise interest rates if there were evidence that rising compensation had started to cause higher inflation. The revised report indicated that unit labor costs only increased by 2.3 percent, far less than first reported. This new data eases concerns about inflation running to high and policy makers would not be nearly so concerned.

Productivity growth for the year had been relatively strong but the original report from the Labor Department showed no change in labor productivity. Since strong productivity is needed to offset growing labor cost and the influence on inflation this report was somewhat troublesome to economists.

The new report, however, revised the productivity numbers from no change to an increase of 0.2 percent. The increased productivity serves to dampen the inflationary effects of increased labor costs because business can afford to pay higher worker compensation if those workers are more productive. The end result is less pressure on consumer prices than would other wise be the case.

"With energy and commodity prices having receded form their peaks, labor costs now represent the most significant source of potential inflation pressures for the U.S. economy, said Stuart Hoffman, chief economist with PNC Financial. Today's numbers, he added, "should bring a major measure of relief" to Fed members.

Discussion Questions:
1. Visit this Bureau of Economic Analysis Frequently Asked Questions and thisFederal Reserve Bank of Minneapolis page and answer the question, "What new data lead to the sometimes large revisions in wages and salaries?"
2. Discuss how productivity increases offsets inflationary pressures of increased worker compensation.
Multiple Choice/True False Questions:
1. Cost-push inflation occurs when aggregate demand increases.
  1. True
  2. False
2. The Labor Department's measure of worker compensation takes productivity into account:
  1. True
  2. False
Source Jeremy W. Peters, "Government Report Eases Inflation Fears" The New York Times Online, December 5, 2006.
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