TFP: Three Episodes or Four?

Zachary Goldfarb reports that this was CEA Chair Jason Furman's favorite chart from the latest Economic Report of the President:

That shows total factor productivity growth (TFP, though some call it "multifactor") which is a measure of technological progress calculated as a residual: the part of output growth that cannot be explained by increases in factors of production (capital and labor).  Another way to think of it is that it is the growth that would occur even if the amount of machinery and equipment as well as labor stayed the same.  The CEA's report explains it quite nicely starting on p. 181.

Technological progress is the key determinant of long run living standards, so if the trend of technological progress has risen after its slump in the 1970's and 80's, its a big deal (and a bigger deal than many of the short-run cyclical issues we tend to obsess over).

The CEA's chart shows 15-year averages which smooths out the year-to-year volatility in TFP growth.  This is sensible because it its hard to discern the long-run trends that the concept is meant to help us understand.  The average TFP growth rate can be split into three eras:

• 1949-1973 -- 1.9%
• 1974-1995 -- 0.4%
• 1996-2012 -- 1.1%

That is, productivity growth has risen about halfway back to its "postwar golden age" level since the mid-1990's.  While identifying breaks in a series like this can be tricky, there does seem to be consensus that there was a slowdown in the mid-1970's and a resurgence in the mid-1990's.

However, the results are somewhat different than what I presented to my macroeconomics students a few weeks ago.  This is a chart made from the BLS' Historical Multifactor Productivity Measures for the private non-farm business sector (which I believe is the same data the CEA used).

The gray line is the actual annual growth (you can see why it helps to average out some of the volatility) and the red line is the centered 15-year average (i.e., the same as the CEA's graph).  However, the CEA's method of averaging means that their graph stops in 2005. The years since then have not been good ones for TFP.  Since their data point for 2005 is an average over the years 1998-2012, the CEA is not ignoring the bad news, but they are lumping it in together with some good years (the late 1990's and early 2000's).

The dashed lines in the chart above illustrate an alternative, less optimistic way of interpreting the same data by breaking it down into four eras instead of three:

• 1949-1973 -- 1.9%
• 1974-1995 -- 0.4%
• 1996-2005 -- 1.6%
• 2006-2012 -- 0.5% 

This would be consistent with a brief 'boom', perhaps attributable to information technology and the internet, in 1996-2005, but one that is already exhausted.  That is the view that Robert Gordon took in this NBER working paper (and recent update).

Identification of trends in short periods of volatile data is inherently uncertain, and it may be sensible to think the reduction in TFP growth over the past several years is largely the artifact of cyclical factors.  That seems to be, implicitly, the CEA's view (and Ben Bernanke also has argued for a more optimistic interpretation of long-run prospects).  Whether they're right or Gordon is will make a huge difference for standards of living a generation or two hence, but, just now, it is too soon to tell.