WASHINGTON Worker productivity increased at a faster pace in the first three months of this year than previously estimated, wage pressures moderated and an important measure of business activity showed the service sector skirted recession in May.
The Labor Department reported Wednesday that productivity rose at an annual rate of 2.6 percent from January through March. That was faster than the government's first estimate of 2.2 percent a month ago.
Wage pressures eased from the final three months of last year. Labor costs rose at an annual rate of 2.2 percent in the first quarter, compared with a 4.7 percent surge late in 2007.
The Institute for Supply Management said its non-manufacturing index, which covers 80 percent of the economy, stood at 51.7 in May better than expected and close to April's 52 figure.
A reading above 50 indicates that service companies, where most people in the U.S. work, are expanding activity despite the effect of a prolonged slump in housing, a severe credit crunch, soaring energy costs and plunging consumer confidence
"The economy may be huffing and puffing and gasping for air, but it has yet to collapse," said Joel Naroff, chief economist at Naroff Economic Advisors.
Naroff said the performance for service industries was encouraging when combined with the report Monday that the institute's manufacturing index rose slightly in May.
"The economy is not spiraling downward, and that is critical" for the Federal Reserve, he said.
The Fed is keeping close watch for the threat of a possible recession and the risk of higher inflation. Increases in energy costs could raise inflation expectations and cause workers to demand higher wage gains. That could set off a wage-price spiral such as the one that gripped the country in the 1970s during a previous period of repeated energy shocks.
Better wages and benefits are good for employees, yet can lead to higher inflation if businesses raise prices to cover higher payroll costs. But rising productivity allows businesses to finance higher wages from increased output.
The 2.6 percent rate of growth in productivity was a significant improvement from a 1.8 percent increase in the final three months last year. The 2.2 percent rise in labor costs, unchanged from the initial estimate a month ago, compares with a 4.7 percent rate of growth in the fourth quarter of 2007.
"There is plenty to worry about on the inflation front. Soaring prices for energy, food and other commodities are pushing up input costs for companies and raising the cost of living for consumers, but labor costs remain subdued," said Nigel Gault, chief U.S. economist at Global Insight.
Gault and other analysts said the Fed should welcome the news on productivity and labor costs. The central bank has started to worry more about inflation pressures in the face of the relentless surge in energy and food costs.
On April 30, the Fed cut rates for a seventh time since September and indicated a possible short-term stop to further reductions as attention shifts from avoiding a steep recession to concerns about inflation.
Fed Chairman Ben Bernanke, in a speech Tuesday, said a rapid rise in prices, if sustained, "might lead the public to expect higher long-term inflation rates, an expectation that ultimately could become self-confirming."
Bernanke's remarks were seen as a strong signal the Fed is done cutting interest rates for now and may start raising them this year as a way to battle inflationary pressures.
The Fed wants to make sure that soaring energy costs do not produce higher wage pressures that could trigger a disastrous wage-price spiral like the country experienced in the 1970s.
In a speech Wednesday to the graduating class at Harvard, Bernanke said that he did not think the current big increases in energy prices would trigger the same serious problems as the 1970s. He said the Fed is much more vigilant these days to the dangers posed by letting inflation expectations get out of control.
"We see little indication today of the beginnings of a 1970s-style wage-price spiral, in which wages and prices chased each other ever upward," Bernanke told the graduates.