The Big Idea
Be patient with productivity
This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors. This material does not constitute research.
Financial markets have focused on AI for some time and appear to be in a rush to price in an economic transformation that may take decades. A year ago, many economists took strong productivity growth in 2023 as evidence that the productivity revolution had already started. A year later, the 2024 numbers are in, and they suggest that efficiency gains are still not accelerating meaningfully.
Productivity data
Labor productivity is without question one of the most important underlying elements to any economy. A discernible upturn in productivity in an economy is a winner for everyone. Workers can earn more because they can create additional output for each hour of labor. Companies are likely to make larger profits. Government finances are bolstered by the resulting household and business income.
One way to think about the fundamental importance of productivity is to consider how an economy’s potential growth rate is determined. In the long run, real GDP growth for any economy is likely to approximate the sum of the rate of increase in the working-age population and the rate of productivity advances. An acceleration in trend productivity should translate one-for-one into a faster potential growth rate. This has immense positive implications for an economy over time. It raises the pace at which GDP can grow without generating inflation, raising the standard of living of workers. And in the current instance, it could conceivably help to improve what is currently a frightening fiscal outlook.
It is easy to understand why economists would be eager to herald a productivity acceleration. Even Fed officials have been approvingly discussing the positive prospects for AI and the possibility of a higher productivity regime going forward. For example, Boston Fed President Susan Collins noted in a November 20, 2024 speech: “Another positive supply development has been a notable rise in labor productivity…Productivity remains on a higher trend than it was before the pandemic.”
In any case, while productivity is conceptually one of the handful of fundamental building blocks for an economy, in practice the actual measured productivity data leave much to be desired. As calculated by the Bureau of Labor Statistics, productivity is derived as the difference between output growth—precisely, gross value added of nonfarm businesses—and hours worked. It is a residual. Accordingly, reported productivity is subject to all of the noise and measurement flaws of both GDP and employment.
Not surprisingly, given this methodology, measured productivity growth is notoriously volatile. Individual quarterly observations are of little value at all taken out of context. Even annual gains exhibit tremendous fluctuations. Over the last 20 years, the yearly changes have spanned from 6.5% to -1.9% (Exhibit 1).
Exhibit 1: Q4/Q4 Productivity Growth
Source: BLS.
The fact that the supposed “productivity acceleration” in 2023 followed the worst annual measured performance in decades should have set off alarm bells. Indeed, productivity growth in 2024 receded to 1.6%. In any case, teasing out trends in productivity generally requires examining multi-year periods rather than focusing on a single quarterly or even annual reading.
Defining the trend
Given the violent swings in the productivity data, pinning down an underlying trend can be difficult. Defining the proper time interval to focus on is tricky. In the modern era, I would argue that there were three key events that potentially shifted the longer-run trend in productivity growth.
First, the technology revolution in the 1990s driven by the widespread adoption of the internet and personal computers pushed the productivity trend higher. In the 1990s and 2000s, annual productivity growth averaged nearly 2.5%, a sharp acceleration from around 1.5% in the 1980s.
Second, the 2008 Global Financial Crisis led to dislocations in the economy as well as policy changes that favored safety and control over efficiency—for example, much tighter financial regulation. Productivity gains from 2011 through 2016 averaged a measly 0.8%. The tone shifted considerably in 2017, with a cut in corporate income and capital gains taxes, sweetened depreciation schedules, and a lighter regulatory burden for a number of sectors of the economy. Productivity growth picked up to a 1.9% average from 2017 through 2019. Admittedly, three years’ worth of data are not enough to draw any firm conclusions of the economy’s underlying pace of productivity gains, but that is all we have because the entire economy was disrupted in unprecedented fashion in 2020.
The pandemic, the third major event, threw the economy into chaos in 2020. GDP growth and employment were out of phase for several years, muddying the waters to the point that it was impossible for several years to say much about the underlying trend of productivity growth.
One approach is to break the economy into decades, which may not be optimal since it does not necessarily line up exactly with shifts in the underlying economy but is certainly simple and uses a sufficiently broad lens to get past the short-term noise in the data. Average nonfarm business productivity has varied over the last several decades (Exhibit 2).
Exhibit 2: Average nonfarm business productivity growth
Source: BLS.
There are a million ways to slice and dice the data to get a preferred answer, so there is certainly judgment involved. I would say that the broadest way to think about the pre-pandemic trend would be to look at the average from 2001 through 2019. This works out to 1.8%. If you want to narrow the scope and look at the years immediately prior to the pandemic, the three-year average from 2017 through 2019 was 1.9%.
We now have five years’ worth of data since the start of the Covid pandemic. The average annual productivity increase over that period has been 1.9%, nearly identical to the pace seen over the prior three (and prior 19) years. My conclusion is that productivity growth has not shifted markedly from the trends of the past 20 to 25 years.
AI and productivity
As I first said last year, I am not an AI-skeptic. It may very well be that AI is going to offer a scale of efficiency gains that will be sufficient to boost the economy’s trajectory for an extended period of time. If that happens, however, we will need to be patient. The 1990s “technology revolution” was ongoing for years before there was clear evidence of its impact in the economic and, in particular, productivity data. In fact, measured productivity only began to seriously accelerate in 1996, years after the technology stock boom began and the year in which Chair Greenspan coined the term “irrational exuberance.”
An AI-driven productivity boom is not implausible. However, Fed officials would be wise to take a skeptical, or, at least a patient, approach. Indeed, my best guess is that productivity growth in 2025 will be equal to or lower than 2024’s 1.6%. An AI “productivity revolution” may well be on the way, but we may need to wait a few years before it becomes evident in the numbers.
This material is intended only for institutional investors and does not carry all of the independence and disclosure standards of retail debt research reports. In the preparation of this material, the author may have consulted or otherwise discussed the matters referenced herein with one or more of SCM’s trading desks, any of which may have accumulated or otherwise taken a position, long or short, in any of the financial instruments discussed in or related to this material. Further, SCM may act as a market maker or principal dealer and may have proprietary interests that differ or conflict with the recipient hereof, in connection with any financial instrument discussed in or related to this material.
This message, including any attachments or links contained herein, is subject to important disclaimers, conditions, and disclosures regarding Electronic Communications, which you can find at https://portfolio-strategy.apsec.com/sancap-disclaimers-and-disclosures.
Important Disclaimers
Copyright © 2025 Santander US Capital Markets LLC and its affiliates (“SCM”). All rights reserved. SCM is a member of FINRA and SIPC. This material is intended for limited distribution to institutions only and is not publicly available. Any unauthorized use or disclosure is prohibited.
In making this material available, SCM (i) is not providing any advice to the recipient, including, without limitation, any advice as to investment, legal, accounting, tax and financial matters, (ii) is not acting as an advisor or fiduciary in respect of the recipient, (iii) is not making any predictions or projections and (iv) intends that any recipient to which SCM has provided this material is an “institutional investor” (as defined under applicable law and regulation, including FINRA Rule 4512 and that this material will not be disseminated, in whole or part, to any third party by the recipient.
The author of this material is an economist, desk strategist or trader. In the preparation of this material, the author may have consulted or otherwise discussed the matters referenced herein with one or more of SCM’s trading desks, any of which may have accumulated or otherwise taken a position, long or short, in any of the financial instruments discussed in or related to this material. Further, SCM or any of its affiliates may act as a market maker or principal dealer and may have proprietary interests that differ or conflict with the recipient hereof, in connection with any financial instrument discussed in or related to this material.
This material (i) has been prepared for information purposes only and does not constitute a solicitation or an offer to buy or sell any securities, related investments or other financial instruments, (ii) is neither research, a “research report” as commonly understood under the securities laws and regulations promulgated thereunder nor the product of a research department, (iii) or parts thereof may have been obtained from various sources, the reliability of which has not been verified and cannot be guaranteed by SCM, (iv) should not be reproduced or disclosed to any other person, without SCM’s prior consent and (v) is not intended for distribution in any jurisdiction in which its distribution would be prohibited.
In connection with this material, SCM (i) makes no representation or warranties as to the appropriateness or reliance for use in any transaction or as to the permissibility or legality of any financial instrument in any jurisdiction, (ii) believes the information in this material to be reliable, has not independently verified such information and makes no representation, express or implied, with regard to the accuracy or completeness of such information, (iii) accepts no responsibility or liability as to any reliance placed, or investment decision made, on the basis of such information by the recipient and (iv) does not undertake, and disclaims any duty to undertake, to update or to revise the information contained in this material.
Unless otherwise stated, the views, opinions, forecasts, valuations, or estimates contained in this material are those solely of the author, as of the date of publication of this material, and are subject to change without notice. The recipient of this material should make an independent evaluation of this information and make such other investigations as the recipient considers necessary (including obtaining independent financial advice), before transacting in any financial market or instrument discussed in or related to this material.
Important disclaimers for clients in the EU and UK
This publication has been prepared by Trading Desk Strategists within the Sales and Trading functions of Santander US Capital Markets LLC (“SanCap”), the US registered broker-dealer of Santander Corporate & Investment Banking. This communication is distributed in the EEA by Banco Santander S.A., a credit institution registered in Spain and authorised and regulated by the Bank of Spain and the CNMV. Any EEA recipient of this communication that would like to affect any transaction in any security or issuer discussed herein should do so with Banco Santander S.A. or any of its affiliates (together “Santander”). This communication has been distributed in the UK by Banco Santander, S.A.’s London branch, authorised by the Bank of Spain and subject to regulatory oversight on certain matters by the Financial Conduct Authority (FCA) and the Prudential Regulation Authority (PRA).
The publication is intended for exclusive use for Professional Clients and Eligible Counterparties as defined by MiFID II and is not intended for use by retail customers or for any persons or entities in any jurisdictions or country where such distribution or use would be contrary to local law or regulation.
This material is not a product of Santander´s Research Team and does not constitute independent investment research. This is a marketing communication and may contain ¨investment recommendations¨ as defined by the Market Abuse Regulation 596/2014 ("MAR"). This publication has not been prepared in accordance with legal requirements designed to promote the independence of research and is not subject to any prohibition on dealing ahead of the dissemination of investment research. The author, date and time of the production of this publication are as indicated herein.
This publication does not constitute investment advice and may not be relied upon to form an investment decision, nor should it be construed as any offer to sell or issue or invitation to purchase, acquire or subscribe for any instruments referred herein. The publication has been prepared in good faith and based on information Santander considers reliable as of the date of publication, but Santander does not guarantee or represent, express or implied, that such information is accurate or complete. All estimates, forecasts and opinions are current as at the date of this publication and are subject to change without notice. Unless otherwise indicated, Santander does not intend to update this publication. The views and commentary in this publication may not be objective or independent of the interests of the Trading and Sales functions of Santander, who may be active participants in the markets, investments or strategies referred to herein and/or may receive compensation from investment banking and non-investment banking services from entities mentioned herein. Santander may trade as principal, make a market or hold positions in instruments (or related derivatives) and/or hold financial interest in entities discussed herein. Santander may provide market commentary or trading strategies to other clients or engage in transactions which may differ from views expressed herein. Santander may have acted upon the contents of this publication prior to you having received it.
This publication is intended for the exclusive use of the recipient and must not be reproduced, redistributed or transmitted, in whole or in part, without Santander’s consent. The recipient agrees to keep confidential at all times information contained herein.
