Why would a slowdown from the current trend rate likely boost inflation?
In theory, slower growth in trend productivity would have two counteracting effects. First, it likely would raise business costs for a time, because firms would face more rapid growth of unit labor costs. To offset the resulting squeeze on profit margins, firms would need to raise prices more rapidly. Eventually, increases in unit labor costs are likely to fall back toward previous slower rates as workers are forced to accept lower wage growth to compensate for their slower productivity growth. But during the adjustment period—which can last for a considerable period—there is upward pressure on inflation. At the same time, slower growth in trend productivity would likely result in slower growth in aggregate demand, which might offset some of the upward pressure on inflation. Growth in consumer spending would probably weaken as lower business profits limit stock market gains, thereby reducing household wealth. More foresighted consumers might also reduce spending, perceiving that the pr
