I wrote a little while back about why I was skeptical of a recent study that said that US workers wasted two hours a day, because the sample was inherently biased towards young people with access to the internet. This group was "surprisingly" found to waste the most time at work, mostly while surfing the internet.
Original news article: Link
Original study: Link
My thoughts: Link
There have been some very interesting responses to this around the web, but the real reason I remain interested in the study is that it made me think about what American "productivity" means. That is, we are widely believed to be the most productive economy in the world, and we had experienced some of the fastest productivity growth in our modern history in the last few years of the 1990s, but since the companies underlying that growth were later found to be full of hot air, perhaps the productivity growth experienced then is also hot air.
Let me come out with a little bit of paranoid conspiracy: the US government is no different than any fraudulent American company, and we've started with a little fraud, and will likely continue to increase as long as we need to keep up a charade.
Imagine the US government is a very large corporation, and citizens who don't work for the government are its shareholders, and citizens who work for it are its employees. Now, like any corporation, the government wants to make its shareholders and employees happy.
But the problem for our corporation is this: the spending it wants to make to keep its constituents happy are not matched with enough sales, aka tax revenue. So, the corporation does what any good American corporation does - it turns to the capital markets to borrow money to fund its operating deficit. And, for the last 25+ years, the government has been able to assuage people loaning them money that they are a good risk - they have the world's largest and strongest economy, are growing at a constant and strong clip, and will be able to pay that debt in time, and then some.
Now, imagine you are a lender, 25 years into the great debt experiment. There's a pretty good change you are foriegn, so let's imagine you aren't that familiar with life on the ground over here, but you do keep up on the press, so you see what is reported in the papers. You're a little nervous, and you decide to schedule a meeting with Alan Greenspan to discuss the state of the nation, and to determine for yourself how creditworthy we are for yourself.
What would the US do to show we are a good risk?
Well, luckily for the government - seeing how it gets to make the laws - it also gets to measure its own performance. It has a bunch of different organizations that are dedicated to producing statistics on our economy, adjusting them and publishing them: the Federal Reserve's Z-1, the Bureau of Labor Statistics, the Bureau of Economic Analysis, etc.
Greenspan would brew some strong coffee, probably several pots, and take the huge books of statistics that we produce on a regular basis, and sit down for a long session with the
concerned investor, allow them to pore over the numbers, and of course, reach the inevitable conclusion that the US is a strong, powerful economy that will be good on its debts.
The lender, assuaged by the mass of information, agrees to continue lending money to the US at 3-5% over various time periods; a luxury that no other nations with our debt levels and trade deficit enjoy; but by all other measures, things look fine, so we continue.
Let's turn to a little textbook theory to support this idea. The passage below is from a book I am reading called Financial Statement Analysis (Fridson/Alvarez). Here's a quote from the first chapter (pages 4-5) that discusses why corporate fraud occurs:
A corporation exists for the benefit of its shareholders. Its objective is not to educate the public about its financial condition, but to maximize its shareholders wealth. If it so happens that management can advance that objective through "dissemination of financial statements that accurately measure the profitability and financial condition of the company," [definition from Howard Schilit of CFRA], then in principle, management should do so. At most, however, reporting financial results in a transparent and straightforward fashion is a means unto an end.
Management may determine that a more direct method of maximizing shareholder wealth is to reduce the corporation's cost of capital. Simply stated, the lower the interest rate at which a corporation can borrow or the higher the price at which it can sell stock to new investors, the greater the wealth of its shareholders. From this standpoint, the best kind of financial statement is not one that represents the corporation's condition most fully and most fairly, but rather one that produces the highest possible credit rating and price-earnings multiple. If the highest ratings and multiples result from statements that measure profitability and financial condition inaccurately, the logic of fiduciary shareholder to shareholders obliges management to publish that sort, rather than the type held up as a model in accounting textbooks. The best possible outcome is a cost of capital lower than the corporation deserves on its merits. This admittedly perverse argument can be summarized in the following maxim, presented from the perspective of issuers of financial statements:
The purpose of financial reporting is to obtain cheap capital.
So, now we have an analogy, a rationale, and a definition.
Since Bush came into office, government has been about equal-opportunity spending for both Democrats and Republicans. We are now at the point where good news is when the budget deficit for 2005 is anticipated to decline to $350 billion, down from $400 billion in 2004.
Politicians understand what the game is: stay in office by spending money to please the electorate, and if it means spending more than America generates each year in taxes, so be it.
Politicians spend on whichever demographic that supports them, a domestic "spending arms race", and they are supported by a combination of lumpen who want or need their lifestyles to be funded, and by working citizens who want to be protected from the lumpen and other crazies, like terrorists. But the rest of the world is an important component in making this work, because we don't pay for it ourselves. The difference is funded in debt, to be paid in the future, and which will be managed in the present by keeping debt service payments as low as possible by projecting an image of a robust economy through all of our governmental reporting agencies.
Ah, to be a world power!
In this sense, the government has a setup that Bernie Ebbers will
probably spend the rest of his life dreaming enviously about from prison: I get to
report the numbers I think are meaningful, and I get to determine how
the numbers I report are calculated.
Now let's revisit productivity. I recently read a book titled Financial Reckoning Day, by Dan Denning, that introduced me to the concept of so-called "hedonic adjustments"; that is, adjustments to the price of a good based on its quality. A computer that doesn't change in price over a year but becomes twice as fast, has its "price" for statistical purposes cut in half through a hedonic adjustment. As an adjusted figure is added to productivity for computer spending, the sales of PCs are divided by the hedonic-adjusted price, which - if sales hold flat and quality increases - means the contribution of the PC sales will also increases, regardless of actual worker output.
With this introduction, lets take a look at the 1990s productivity "miracle" (p. 146-147):
The third and final quarters of 1999 produced some very healthy numbers for labor productivity. The Bureau of Labor Statistics recorded the rate of increase at 5% in the 3rd quarter and 6.4% in the fourth. It was partly on the basis of these numbers that the historic shift of money from the Old economy to the New one was justified and explained. The Old Economy was said to be growing sluggishly, while the new one seemed to be propelled forward at ever-faster speeds by the incredible productivity gains made possible by information technology. "Incredible" was the operative word.
To put these numbers in perspective, labor productivity increased in the United States from 1945 to 1962 at an annual rate of about 3.1%. Then it declined. Between 1965, labor productivity increased at only a 2% to 2.5% rate. It then collapsed to as low as 0.3%...and remained around 1% until 1995.
After three years of near-stagnation between 1992 and 1995, productivity growth all of a sudden began to spurt in the last quarter of 1995. What caused that?
What caused it was that the Bureau of Labor Statistics changed the way it calculated productivity. It began to look at what it called a "hedonic" price index that took into account not just the price of computer equipment, but its computational power. On the surface, this makes some sense. If a dollar buys as much computational power one year as the next, it is as if the price of computing power had fallen in half.
[Here is where Financial Reckoning Day gets a little vague, so I’ve turned to the Dallas Fed for some additional color:
“Most industries produce non-uniform products, making output calculations complex. For example, the BLS reports that output per hour in the semiconductor industry rose an impressive 1,304% from 1987 to 2001. During this period, the variety, quality and prices of semiconductors changed substantially. … To account for such intricate details, the BLS…arranges similar goods and services into detailed product groups with comparable characteristics. For each group, sales are divided by prices adjusted with the corresponding price deflator. Aggregated results become the output measure similar to physical quantity measure of output.” Link ]
The third quarter of 1995 was the first time this change took effect. It miraculously transformed $2.4 billion in computer spending into $14 billion of output, instantly boosting GDP by 20%, lowering inflation and increasing productivity (output per hour). As more an more money was spend on information technology, and computational power continued to follow Moore's law, doubling every 18 months – GDP and productivity numbers began to look like someone with too many facelifts – grotesque and unrecognizeable. But it was not until the last half of 1999 that this hedonic measure really put the productivity numbers in their most flattering light. Info tech spending went wild in the last half of 1999 – urged to excess by the Y2K threat. This activity was amplified by the Bureau of Labor Statistics to such an extent that its message could be heard all over the world: 6% productivity was a triumph – the new era was paying off!
The number for the forth quarter, to repeat, was spectacular. Incredible. It was later revised to an even more incredible 6.9%.
The only trouble was that it was not real. It was, like the New Era that supposedly made it possible, a fraud. More computational power is not the same as economic growth. And being able to turn out more computational power for each hour of labor input is not the same as an increase in labor productivity. Like the millions of lines of code and the millions of miles of fiber-optic cable, computational power is only as valuable as the money that people are willing to spend to get it. And that is measured, not by hedonic numbers, but by real dollars and cents.
What was true for the nation’s financial performance was also true for that of individual companies. Companies engineered their financial reports to give investors exactly the information they wanted to hear. What they were often doing was exactly what Alan Greenspan was worried about – impairing balance sheets in order to produce growth and earnings numbers that delighted Wall Street.
Curiously, during what was supposed to be the greatest economic boom in history, the financial condition of many major companies actually deteriorated.
Hence, we have the origins of the American productivity "miracle", and a motive. I will revisit this theme of government deception in economic reporting from time to time, and refer you to links that feature articles by people more knowledgeable than I (like Bill Gross). Keep this in mind the next time someone cites favorable government figures as a reason why things should be going well! - Ed
