From 2000-2005, U.S. trend productivity growth is estimated to have accelerated again, as I mentioned, to around 3 percent. But productivity growth in the tech industry itself slowed down, and so did investment in tech equipment by firms that use it. Why, then, did productivity growth surge in this period, and what does the answer imply for productivity going forward? Here the stories are not so clear. One explanation begins with the notion that investment itself is disruptive, since firms have to divert resources to installing and learning to use the new capital...

Another explanation for the productivity surge in 2000-2005 is that it reflected severe profit pressures that forced firms to cut costs by restructuring, engaging in mergers, and so on.  Insofar as this explanation is at work, the cost-cutting resulted in one-time productivity gains and has not sown the seeds for faster productivity growth going forward.

Both explanations, then, are consistent with the possibility that trend productivity growth has slowed. However, I don’t want to overstate the degree of any possible slowing. We are still talking about trend growth going from about 3 percent in 2000 to 2005—the figure I cited earlier—to between 2 and 2½ percent now. So, productivity growth still would be reasonably strong, just not as strong as over the prior decade. As I said, a lower trend rate of productivity growth would help explain the sluggishness in business investment and put upward pressure on inflation for a time.

What about the effects of a productivity shock on inflation?  Ultimately inflation is determined by the policy actions of the central bank.  In the short run, however, a change in the trend growth rate of productivity can influence inflation dynamics...  

Nominal compensation per hour initially seems to respond sluggishly to changes in the economy, including productivity shocks.  As a result, an increase in productivity growth, for example, initially slows the growth of unit labor costs, which firms--under competitive pressure--then pass on to their customers, thereby slowing price inflation. 

A limited slowdown in productivity growth would not be a major concern. The margin of prices over unit labor costs is high by historical standards, and firms should be able to absorb some increases in labor costs without passing them on in prices...However, a more substantial and permanent slowdown in productivity growth would put continuing upward pressure on costs that firms eventually would need to recover by raising prices more quickly.

As productivity growth returns to trend, unit labor costs will probably start to rise, potentially putting pressure on prices.

The increased productivity experienced in the late 1990s, due to the large investment in information and communication technology, or ICT, allowed the United States economy to produce high levels of output while not experiencing inflationary pressures.

The dynamic at work was that the new, profitable investments being offered in ICT created an increase in productivity, which translated into increased profits, and thus more investing and consuming. At the same time, the increase in productivity growth helped keep down unit labor costs and prices. This led to a period of strong growth and low inflation.

Slower productivity growth would have negative consequences for economic activity and would boost inflation because less rapid productivity growth translates into more rapid increases in firms’ production costs...[But] my view is fairly optimistic. I think there is some evidence that the economy is continuing to reap productivity gains from much of the investment firms and people already have made.

As productivity growth returns to trend, unit labor costs will probably start to rise, potentially putting pressure on prices. We already saw some indications of a shift down toward long-run productivity growth at the end of last year. Moreover, higher prices for oil and other commodities may exacerbate price pressures, as producers try to pass on some of their higher input costs.

Although the recent data suggest that the worrisome trend of disinflation presumably has come to an end, still-significant productivity growth and a sizable margin of underutilized resources, to date, have checked any sustained acceleration of the general price level and should continue to do so for a time. Moreover, the initial effect of a slowing of productivity growth is more likely to be an easing of profit margins than an acceleration of prices.