is Good News for Inflation, Living Standards

• Productivity growth remained strong in the third quarter, up 2.2%. 

• Unit labor cost growth is slowing, with a 1.9% increase in the third quarter.

• Strong productivity growth is contributing to strong economic growth. At the same time slower growth in unit labor costs is a major reason behind the ongoing slowing in inflation. 

• There was a substantial upward revision to productivity growth over the past five years. Strong productivity growth allows for higher living standards over time. 

• PNC expects the FOMC to cut the federal funds rate by 25 basis points this afternoon.

Nonfarm business productivity increased 2.2% at an annual rate in the third quarter, according to the preliminary estimate from the Bureau of Labor Statistics. Productivity was up 2.0% in the third quarter from a year earlier. Rising productivity—output per worker hour—is the key to increasing standards of living in the United States. Productivity growth was 2.1% in the second quarter (revised lower from 2.5%). 

Unit labor costs—the cost of producing an additional unit of output, taking into account productivity and worker compensation—rose 1.9% annually in the third quarter. Unit labor costs were up 3.4% in the third quarter from a year earlier. In the second quarter unit labor costs rose 2.4% (revised higher from 0.4% growth). 

Economic growth is basically productivity growth plus labor force growth. Ongoing strong productivity growth allows for stronger economic growth over the long run, boosting the U.S. economy. Over the past two years productivity growth has averaged 2.4% at an annual rate, much faster than productivity growth during the recovery from the Great Recession. Less skilled workers hired in the immediate aftermath of the pandemic are settling into their jobs, and businesses have made lots of investments that are raising productivity. This strong productivity growth has been a major factor behind solid U.S. economic performance over the past couple of years. 

At the same time unit labor cost growth is slowing. In 2022 and early 2023 unit labor costs were growing around 4% a year, as the tight labor market was boosting wage growth and productivity growth was soft with a huge influx of less-skilled workers in the immediate recovery from the pandemic. This contributed to the high inflation at that time, as businesses raised prices in response to rapidly rising labor costs. But with strong productivity growth and softening wage growth underlying growth in unit labor costs is now around 2.5%, and set to slow further in the near term. This is a major reason why inflation has eased over the past couple of years, and is set to soften further in the near term. 

Productivity growth should remain strong in the near term. With the labor market still tight businesses are continuing to invest in technologies that will make their existing workers more productive; lower interest rates into 2025 as the Federal Open Market Committee continues to cut the federal funds rate will provide further support to productivity-enhancing investment. PNC expects the FOMC to announce a 25 basis point cut in the federal funds rate this afternoon. Over the longer run artificial intelligence holds tremendous potential for boosting productivity growth. 

This release also included revisions to historical productivity growth, based on updated GDP numbers. Nonfarm productivity growth was revised higher from 1.7% at an annualized rate to 1.9% from the first quarter of 2018 to the second quarter of 2024. While this may seem small the effects over time are compounded, and in the second quarter of 2024 productivity was more than 1% higher than originally thought. This upward revision to productivity growth means U.S. living standards, on average, are higher than previously thought. 

Output in the nonfarm business sector rose 3.5% at an annualized pace in the third quarter, with hours worked up 1.2%. Hourly compensation rose 4.2% annualized. 

In the manufacturing sector productivity rose 1.0% annualized in the third quarter. This was composed of a 0.2% drop in output and a larger drop of 1.2% in hours worked. With hourly compensation up 6.4% in the third quarter, manufacturing unit labor costs rose a strong 5.3%.

The PNC Financial Services Group, Inc. is one of the largest diversified financial services institutions in the United States, organized around its customers and communities for strong relationships and local delivery of retail and business banking including a full range of lending products; specialized services for corporations and government entities, including corporate banking, real estate finance and asset-based lending; wealth management and asset management. For information about PNC, visit www.pnc.com.