managing our way to higher service-sector productivity

It's astonishing what happens when senior executivespay attention to how work actually gets done.

MANAGING OUR WAY TOHIGHER SERVICE-SECTOR

PRODUCTIVITYby Michael van Biema and Bruce Greenwald

What electricity, railroads, and gasoline powerdid for the U.S. economy between roughly 1850 and1970, computer power is widely expected to do fortoday's information-hased service economy. Butthere is increasing concern hecause improvementsin productivity growth are continuing at low levelsdespite the expenditure of trillions of dollars on in-formation technology. Whereas productivity grewat an annual rate of 3% in the two decades follow-ing World War II, it has grown at an annual rate ofonly about 1% since the beginning of the 1970s.Had the earlier level of productivity growth beensustained, the gross domestic product would nowbe approximately $11 trillion instead of about $6.5trillion. That extra $4.5 trillion per year in eco-nomic output-which amounts to roughly an addi-tional $18,000 for every man, woman, and child-would be having a profound impact on a wide rangeof social and economic problems.

WljatJ^preventmg a productiyity revival iii_the^UjS. economy? Clearly, the manufacturing sectorcannot be blamed. Since 1980, improvements inproductivity in the manufacturing sector havemoved the United States from a position of near ter-minal decline to renewed world dominance. Hand-wringing over the fate of the Rust Belt cities is athing of the past. From 1970 to 1980, the UnitedStates lagged behind several other major industrialpowers in manufacturing productivity growth. (Seethe table "The Turnaround in U.S. ManufacturingProductivity.") In the early 1980s, U.S. manufactur-ing began to rebound, and between 1985 and 1991the United States surpassed Germany and Canadain manufacturing productivity growth, was neckand neck with Italy, and lagged behind only Japanand the United Kingdom.

Manufacturing, however, constitutes an increas-ingly small proportion of the U.S. economy. Goods-

producing activities (such as manufacturing andconstruction) employed only 19.1% of the laborforce in 1992-down from 26.1% in 1979. (See thetable "The Growth of the Service Sector in the U.S.Workforce.") Service-producing activities, on theother hand, employed 70% of all U.S. workers in1992-up from 62.2% in 1979. By 1994, 71.5% ofU.S. workers performed service jobs - whether inmanufacturing or service organizations - as man-agers and professionals, salespeople, or technicalsupport staff.

Although the service sector's size has grown inthe past 20 years, its productivity growth has de-clined. Compare its productivity growth with thatof the manufacturing sector, for example. From1946 to 1970, productivity grew by 3% per year inthe manufacturing sector and by 2.5% per yearin the service sector. From 1970 to 1980, those an-nual rates fell to 1.4% for manufacturing and 0.7%f̂or services. Then, from 1980 to 1990, the rate re-covered to 3.3% for manufacturing but stagnatedat 0.8% for services. The productivity revival hadfailed to penetrate the service sector.

Why hasn't productivity grown as fast in the ser-vice sector as in the manufacturing sector? Severalincomplete explanations have been offered andhave resulted, in our view, in some serious miscon-ceptions. We hope to show their limitations hereand present a new explanation that lays the blame

Michael van Biema is an assistant professor of econom-ics and finance, and director of the Sloan Studies inTechnology and Service Sector Productivity, at the Co-lumbia Business School in New York City. Bruce Green-wald is the Heilbrunn Professor of Economics and Fi-nance at the Columbia Business School Their researchon service sector productivity is supported by the AlfredP. Sloan Foundation.

HARVARD BUSINESS REVIEW July-August 1997 87

SERVICE SECTOR PRODUCTIVITY

1970 -1980 1985-1991

Country Productivity Growth Rate Indexed to U.S. Growth Rate

Canada

Germany

Italy

Japan

United Kingdom

0.2%

2.0

2.4

5.2

0.2

-2.6%

-1.1

0.0

2.3

1.1

in two places: the ineffectiveness of many U.S.business managers at improving productivity andthe inherent complexity of the service sector itself.A management-based approach to improving theservice sector's productivity offers hope for a rapidand significant turnaround of the sector's produc-tivity growth rate.

Understanding the ServiceSector's Productivity Slump

There are a number of current explanations forwhy productivity growth has stalled in the servicesector. A common one is that the issue is simply amatter of measurement. Productivity, it is claimed,has been growing. But traditional productivity mea-sures fail to capture that growth because it has beenconcentrated in improved quality of services. Thedata, however, argue strongly against this possibil-ity. First, undermeasurement of quality has beencited as an explanation since the 1950s, but thereis little evidence that it has increased. Second, thequality argument would apply equally to servicesand manufactured goods, yet manufacturing pro-ductivity has enjoyed a revival despite the under-measurement of quality, whereas service produc-tivity has continued to stagnate.

A second common explanation for the lag in theservice sector's productivity growth is that sincethe 1970s, manufacturing workers, faced with thethreat of losing their jobs to low-wage employeesoverseas, have learned to work harder and smarter,but service workers, who typically have much lessexposure to global competitive pressure, have not.This explanation also falls short. First, the pressureon manufacturing workers in the United States hasgenerally been overstated, often for political pur-poses. Second, although it is true that many manu-

facturing jobs have been lost to foreign workers, afar greater number have been lost simply becausegrowth in demand for manufactured goods has beenrelatively slow in the past ten years, and that has af-fected output.

A third and mind-numbingly familiar explana-tion is that output in the service sector is far belowits potential because of a number of macroeconom-ic factors. According to this line of reasoning, theproposed solutions are to increase national savingsand investment in the service sector by loweringthe federal deficit and thereby reducing interestrates; to improve the quality of the workforce by re-pairing the woeful educational system, which pro-duces workers unable to cope effectively with theincreasingly technical nature of jobs; and to accel-erate the development of new technologies by in-creasing support for research and development,which has been dwindling. In other words, savemore, improve education, conduct more R&JD, andthe service sector's problems will be solved.

A radically different view will be presented here.We will contend that the problem is not a lack of re-sources; rather, it is that service sector companiesoperate below their potential and increasingly failto take advantage of the widely available skills,machines, and technologies. The main reason theservice sector has not reached its total potentialoutput is management. If managers were focusedenergetically and intelligently on putting the exist-ing technologies, labor force, and capital stock towork, rapid productivity growth would follow. Tobe sure, the management challenges are more se-vere in the service sector than in the manufacturingsector. However, the high productivity levels at-tained by leading-edge service companies indicatethat attention from management can result invastly improved performance throughout the ser-vice economy.

Employment Category

Goods-producing(for example, manufacturing,construction, and mining)

Service-producing

Other (includes agricultureand household services)

Total

1979

26.1%

62.2

11.7

100.0

1992

19.1%

70.0

10.9

100.0

88 HARVARD BUSINESS REVIEW July-August 1997

what is required to fulfill this potential is a betterunderstanding of services and a set of tools, tech-niques, and policies to help keep management's fo-cus on productivity improvement. The rigorous ap-plication to the service sector of those managementtechniques that have heen so effective in the manu-facturing sector is a start. Despite their many fail-ings, techniques such as total quality management,hest-practice analysis, process reengineering, just-in-time management, team-based management,and time-based competition helped to focus manu-facturing managers' attention on productivity and,in the process, helped them bring their companiesback to life. Although applying those techniques tothe service sector is more complex, doing so wouldhelp managers provide high-quality services effi-ciently to customers. The key here is that suchtechniques have refocused manufacturing man-agers' attention on the central issue: the efficiencyof basic operations. Applied with equal rigor to ser-vice organizations, they should yield similar re-sults. The villains, according to our view, are notthe deficit or the educational system or lagging gov-

cial events, such as management buyouts, thatdemonstrate the high levels of unexploited poten-tial; and (5) our detailed case studies of individualcompanies' productivity performance.

The first compelling piece of evidence for theview that productivity is management driven isthe improved performance of U.S. manufacturing.The decisive element in this turnaround clearly wasnot the economic factors that are the primary fo-cus of the current debate. The early 1980s werea period of huge public deficits, low private-savingrates, and high real interest rates. Schools werejust as bad as - if not worse than - they are today,judging by the slight improvement in most mea-sures of educational performance since the late1970s and early 1980s. Nor can the revival be ex-plained by the arrival of new productivity-enhancinginformation technologies. Foreign competitors havehad equal access to such technologies but have notbeen able to replicate the improvements attained inthe United States.

The critical factor seems to have been the perfor-mance of managers, whose attitudes changed sig-

The primary reason why the productivity growthrate has stagnated in the service sector

is management.

ernment support for R&D; rather, they are all theforces - takeovers, financial manipulations, gov-ernment regulation, and the general fixation onhigh growth - that distract managers from the fun-damentals of tbeir businesses.

A Management-Based Approachto Service Sector Productivity

The evidence overwhelmingly supports the man-agement-oriented view of the service productivityproblem. Robert H. Hayes and William J. Aber-nathy, the authors of "Managing Our Way to Eco-nomic Decline" (HBR July-August 1980), are as rel-evant today as they were in the 1980s, when theyargued that productivity performance lies predomi-nantly in the hands of managers. Five broad cate-gories of evidence point in this direction: (1) theproductivity turnaround in manufacturing; (2) tbelarge and persistent gaps between the performanceof average service companies and the best-run com-panies; (3) the fluctuating patterns of productivitygrowth at many service companies; (4) certain spe-

nificantly under the pressure of foreign competi-tion. If marketing was the primary focus of the1960s, and if management and finance dominatedthe 1970s and early 1980s, the most recent periodhas been characterized by renewed attention tomanaging basic production and operations. Many ofthe important managerial techniques that havebeen developed in recent years are production ori-ented, and if they were indeed the decisive develop-ment in the turnaround of manufacturing, then itseems unlikely that service productivity would beable to improve without a similar refocusing ofmanagers' attention.

The second major piece of evidence in support ofa management-based understanding of service sec-tor productivity is tbe existence of wide and persis-tent disparities in performance between the bestservice companies and their competitors. North-western Mutual, for example, has long been ac-knowledged as the low-cost provider of life insur-ance. (See the table "How Productivity Varies in theInsurance Industry.") Each dollar that Northwest-ern collected in 1991 from customers' premiums



How Productivity Varies in theInsurance Industry

General Expenses -r Premiums (in cents per dollar)

YearConnecticutMutual

PhoenixMutual

NorthwesternMutual

1988

1989

1990

1991

20.9

19.8

20.2

20.9

16.7

15.7

14.9

15.6

6.8

6.9

7.4

6.3

Note: Data bave been adjusted far differences in accaunting for sales force structure,

type af policy written (base or new], and product mix (term or wfwie life}.

involved a processing cost of 6.3 cents, as opposedto 20.9 cents for Connecticut Mutual and 15.6cents for Phoenix Mutual.

The differences in productivity cannot he at-trihuted solely to differences in the product mix.If anything, those would have worked againstNorthwestern hecause it sells relatively more low-premium term policies than high-premium whole-life policies. Nor can the differences he attrihutedto the organization of the sales force, since the num-hers measure only administrative costs; to the pro-ductivity measure chosen, since other measures,such as insurance in force (the total amount ofinsurance a company has underwritten) or totalassets, yield similar results; or to wage costs, sincethey differ only slightly among the companies. Norcan the U.S. hudget deficit, over-all R&D spending, or the edu-cational system he invoked toexplain the differences, sincetechnology, highly skilled lahor,and capital are equally availahleto practically all similar compa-nies. The differences, therefore,must he attrihuted to how thesefactors are put to use, and that isa question of management.

Such large disparities hetweenthe most productive companiesin an industry and the others canhe found even among the regionalBell operating companies. Thetelephone companies, hecause oftheir common Bell System inher-itance, use the same hasic tech-nologies, pay the same hasicwages, and operate under thesame hasic lahor agreements.

Their employees share common hackgrounds andtraining. Their technology is developed in commoneither hy equipment suppliers or hy their sharedR6LD facility. Bell Communications Research. Yetcost differences of ahout 50% characterize regionalcompany operations in the aggregate, from a low in1991 of $384 per telephone access line at IllinoisBell to a high of $564 per access line at New YorkTelephone. (See the tahle "How Productivity Variesat Regional Telephone Companies.") Similar differ-ences also show up in other areas, such as customerservice. Customer service costs per access line in1991 ran from a low of $32.40 at U S West to a highof $49.30 at New York Telephone. Because there arefew proprietary technologies, productivity is theo-retically the same for all companies, and differ-ences in performance must therefore reflect dif-ferences in managers' effectiveness.

Similar large differences in productivity alsohave heen found in such industries as hanking, hro-kerage, and retail. If a high percentage of companiesin those industries apply hest practices, they canhave a considerahle cumulative effect. Consider thefollowing scenario: Assume that there is a produc-tivity gap of three to one hetween the hest perform-ers in an industry and the laggards. If, over a 20-yearperiod, all the laggards could close that gap, thenthe industry would he ahle to enjoy 3% annual pro-ductivity growth over that period.

A third piece of evidence for the view that man-agers drive productivity is the fact that productiv-ity growth at many companies fluctuates widelyin hoth duration and magnitude. The usual cycle

How

Company

Bell ofPennsylvania

Illinois Bell

New EnglancJTelephone

New YorkTelephone

South Central Bell

U S West

' Productivity Varies at RegionaTelephone Companies

Costs per Access Line Customer Service Costs per($1 Access Line ($)

1988

$368

384

482

531

482

489

1991

$388

384

436

564

430

401

% change

5.4

0.0

-9.6

6.2

-10.8

-18.0

1988

$29.6

36.0

41.7

47.6

38.1

38.8

1991

$36.2

39.7

46.1

49.3

40.4

32.4

% change

22.3

10.3

10.6

3.6

6.0

-16.5


goes something like this: Management becomesconcerned about costs and margins. It announcescost-cutting programs and large-scale layoffs. Thenquiet returns and, for an extended period, little moreis heard until the next management intervention.

A telling example of this cycle is the experienceof Citicorp's credit-card division during the reces-sion of the early 1990s. Citicorp was widely regard-ed in 1990 as having the most efficient operationsof any credit-card issuer, with lower costs than allits major rivals. Administrative expenses grew byabout 6% in 1991, then declined by 3% under com-panywide cost-cutting pressure, and then jumpedby 27% in the next two years. (See the table "TheCost of Taking One's Eye off the Ball: Citicorp.")The increase in costs over those two years was anacross-the-board phenomenon affecting all aspectsof the operation. A deterioration of such magnitudein so short a period defies traditional economic log-ic and demonstrates how important it is for man-agers to continue paying attention to costs. In thisinstance, the source of the distraction was an un-precedented increase in bad loans owing to the re-cession - a problem that consumed much of man-agement's time. The emphasis on managing creditlosses was understandable, as a further run-up innet credit expense would have had a disastrous ef-fect on the company's finances. But the rapid in-crease in operating costs when management'sattention was diverted from basic operations under-scores the central role of management in maintain-ing productivity growth.

This commonly observed pattern of fluctuatingproductivity- periods of rapid advance followed byperiods of little improvement, if not outright de-cline - cannot be explained by the oft-cited factorsof capital, labor, and technology. That is becausechanges in investment, labor, and technology have,on an annual basis, only marginal effects on a com-pany's overall productivity. Investment and depre-ciation alter a company's capital stock by only asmall percentage in any given year. Employeeturnover accounts for only small changes in a com-pany's labor force. Even technology changes at a rel-atively steady and predictable rate. So in order tounderstand how productivity fluctuates at compa-nies, one needs to look first and foremost at the ac-tions of management.

There are a number of special circumstancesthat, taken togetber, provide the fourth piece of evi-dence that management can attain improvementsin productivity. The success of most leveraged-buyout firms, for example, stems almost entirelyfrom their ability to concentrate management's at-tention on the efficiency of basic business opera-

Year

1990

1991

1992

1993

1994

Administrative Expenses(in millions of dollors)

100

106

103

123

131

Net Credit Losses(in millions of dollars)

100

150

156

127

101

Adminiilrative expenses rose wilh net credit losses at Citicorp in the eariy 1990s but

were not brought back in line as net credit losses declined again.

tions. Such opportunities would not be as widelyavailable if those firms were operating at - or evennear - their potential productivity levels. The LBOfirms have made fortunes not because of the gener-ally low level of stock prices (successful buyoutshave continued to occur since the mid-1980s de-spite high stock prices) and not because they can ac-quire companies at bargain prices, but because theyhave hired tough managers who are able to increaseefficiency.

The Importance of SustainedManagement Attention

One of the factors complicating the achievementof productivity gains in the service sector is that,unlike many manufacturing companies, in whichproduct engineers are asked to work on long-termprojects, service companies tend to assign theirstaffs to temporary projects. Consider the followingseries of events at Cormecticut Mutual InsuranceCompany, which decided in 1990 to improve pro-ductivity in several departments. The companybrought in an outside operating executive who, inher previous joh at another insurance company, hadachieved a 35% cost reduction. A task force fromthe targeted departments convened in Decemberand developed a plan to reduce the number of em-ployees by 25% in 1991 and by another 10% in1992. Information technology staff members wouldbe used to carry out the project, although a handfulof outsiders were hired for critical positions. Thework consisted primarily of creating a commongraphical interface for the multiple databases thatcharacterized the original operation and thenstreamlining processes such as underwriting, post-ing premiums, setting up new policies, and writingloans. The technology involved was standard and



well tried. Capital was invested largely in personalcomputer workstations and programming services.Existing employees needed little training to per-form the new jobs.

Some processes were revisited more than onceover the two years of the project. Surprisingly,when processes were revisited a second time, pro-ductivity gains were greater than they had been onthe first pass. In other words, the first go-aroundhad not exhausted all the possible improvements.The results of this persistence were impressive.Over the course of 1991 and 1992, Connecticut Mu-tual managed to reduce the number of positions inits back-office support operations by 128-just over25% of the original 500-person force. Its total in-vestment was estimated to he about $7 million:about $4 million for new investments in computersand about $3 million for additional operating ex-penses. Annual savings were estimated to be $4.5million per year - a return in excess of 60% - andquality measures, such as response times by theback office, improved enormously as a result ofthe new processes.

top priorities, then productivity performance willlag. If the improvement of basic operations rankshigh, then productivity growth will follow.

Exploiting Existing CapabilitiesIn all the successful projects we studied, returns

on capital more than justified any investment andin some cases were astronomical. Furthermore,more highly skilled workers were rarely essentialfor success: the existing workforce was fully capa-ble, with at most modest retraining, of meetingthe demands of the new work processes (althoughlower-skilled workers were often let go). Finally, tothe extent that the projects we studied used trulyleading-edge technologies, they tended to contrib-ute to failure rather than success. The successfulprojects overwhelmingly used proven technolo-gies that were at least three years old. In all thoserespects, managers were largely using existing re-sources to achieve improvements.

Consider the experience of NYNEX Corporation.In 1991, the company wanted to install a limited

By putting the existing technologies, labor force,and capital stock to work, managers can raise

productivity growth rates considerably.

In the middle of 1992, the company's CEO, whohad been a major promoter of the project, an-nounced that he would be stepping down in 18months. Successful work on the project came to ahalt as senior managers, including the outside oper-ating executive in charge of the productivity plan,began jockeying for the top position. Focus andcooperation among departments was rapidly lost.Effort was diverted from carrying out improve-ments to identifying and promoting what hadbeen achieved. Although the project was extendedthrough 1993, there were few reductions in theworkforce after mid-1992. The attention of man-agement was now focused elsewhere.

Clearly, once managers' attention was no longersustained, productivity improvement dropped off.Given the seriousness of this problem, it might behelpful to understand why projects stall. Competi-tive pressures obviously play a role, as do pressuresto meet profit targets or eliminate losses. But an un-derlying, and more plausible, explanation is thatmanagement is a scarce resource. If acquisitions,stock-price manipulations, and public relations are

automated-voice-response system to handle a smallpercentage of service calls for residential and small-business customers. The installation period was lessthan two years, the technology had been available fora few years, and the existing customer-service laborforce was largely unaffected and unchanged (exceptfor some minor training). The capital expenditurewas $3.25 million. In addition, about $2.18 millionin onetime expenses were incurred - mostly laborcosts associated with bringing the new system on-line. When the voice response system was up andrunning, NYNEX realized annual savings of about$3.9 million-an annual return far in excess of 50%.By using the same technology in other areas of thecompany, NYNEX discovered, it could potentiallysave more than $50 million per year.

Just as NYNEX could use existing technology toachieve productivity gains, Salomon Brothers wasable to leverage an existing workforce. When thecompany wanted to relocate its back-office stafffrom New York City to Tampa, Florida, in order tolower labor costs, a careful reevaluation of func-tions led to a reduction from an average of 644


workers between 1991 and 1993 to 458 workers in1994, and ultimately to 425 in 1995. At the sametime, both the volume and complexity of transac-tions increased with no significant upgrading of thelabor force. In fact, there was a significant reductionin the number of skilled workers as many highlyexperienced employees decided not to move fromNew York to Tampa. The overall reduction in thelabor force of 34% represents an average annualproductivity gain of more than 15% over two years.We have seen this pattern at company after compa-ny, and the data unambiguously show that by usingexisting inputs, management can raise productivitygrowth rates considerably.

The Management Challenge:Understanding Service Businesses

Although management's effectiveness may bewhat drives the service sector's productivity, we arestill a long way from seeing improvements in thesector at the level of the macroeconomy. That isnot only because of the sector's size but also, andmore important, because it can be notoriously diffi-cult to manage. One way to appreciate this com-plexity is to compare the management challengesin the service sector with those in the manufactur-ing sector.

The first important difference between the twosectors is that services encompass a much widerrange of activities than traditional manufacturingdoes. Economists and many managers have tried totreat service as an undifferentiated amalgam. How-ever, although medical care, investment manage-ment, retail distribution, private education, telecom-munications, dry cleaning, and check processingmay all be service activities, they present very dif-ferent productivity challenges.

A necessary first step for managers is to identifythe distinct activities performed in their companiesand deal with each in an appropriately tailored way.An approach that has been fruitful in our research isto distinguish among transaction-processing activi-ties like data processing, which, with appropriatetechnology, can be effectively organized into large,highly automated work environments; distributionactivities (wholesale and retail) that involve local,intercormected operations with significant econo-mies of scale; small-scale, dispersed manufactur-ing-like activities (such as dry cleaning and ham-burger making); and higher-level activities thatinvolve direct human interaction and superior ana-lytical capabilities (such as medical care, invest-ment banking, and law). Because the productivity-improvement strategies appropriate to each type of

activity are quite different, it is essential to identifythese separate functions - which often are embed-ded in the same company-if progress is to be madein improving productivity.

The second difference between the sectors is thatservice jobs are inherently multifunctional in waysthat manufacturing jobs often are not. The role offast-food workers is an obvious case in point. Theirresponsibilities often include production (makingthe fast food), retail service (delivery to customers),customer service (making sure that customers havean enjoyable experience), and transaction process-ing (accepting payment and making change). Undersome circumstances, it also may involve stockmanagement and simple building maintenance.Measuring, monitoring, and improving an individ-ual's performance are therefore complex tasks.As a result, efforts at improving organizationalperformance require careful attention to what em-ployees actually do and how their activities couldbe streamlined. This complexity can thwart effortsto improve efficiency because employees resistantto change often claim that changes will impair theirability to do their work.

To address this level of complexity, managersneed to consider a full range of management prac-tices. Best-practice analysis within an organizationwith many similar units (as is often the case in ser-vices) can be a good start for managers because effi-cient units provide useful information about man-agement techniques and performance targets. Atthe same time, comparisons across organizationscan help companies avoid repeating past mistakes.Process analysis, too, is often a useful tool becauseit can uncover ways in which service workers caninteract with customers. The continual analysisand feedback of quality-management techniquesensure that the full range of critical functions con-tinue to be improved. Our studies indicate that theproper application of this set of tools can yield enor-mous performance gains in services just as theyhave in manufacturing.

Third, whereas manufacturing capacity can bespread out across time through physical inventory,service capacity is relatively fixed and carmot relyon inventory to store capacity. Compared withmanufacturing, service operations are more rigid,involving a basic level of capacity that must be setin anticipation of demand (for example, the numberof phone lines, switches, or stores). Furthermore, itis difficult to tell at times whether a service busi-ness has the appropriate amount of capacity, sincethere are no "stockouts" or inventory accumula-tions to use as gauges. Therefore, service sectormanagers who want to improve productivity not



only must maximize capacity utilization but alsomust struggle to determine just what that capacityneeds to be.

Consider the differences in workforce planningin the two sectors. In manufacturing, excess capaci-ty leads to an accumulation of inventory, which inturn leads to temporary or, if necessary, permanentlayoffs. In the longer run, new hiring often stops au-tomatically, as laid-off workers wait to fill their oldjobs. In services, because operations are spread out,signs of excess capacity are more subtle, andstaffing adjustments are more convulsive and un-even. During slowdowns in business, service com-panies react in one of two ways: They eliminatework without laying off the corresponding workersand hence are left with excess staff. Or, in frustra-tion at not having achieved projected workforce re-ductions, they eliminate both jobs and employeeswithout ensuring that the people who go corre-spond closely to the work that is being eliminated.As a result, many of the workers continue on as

This situation is in marked contrast to that inthe service industries, where competition is pre-dominantly local. Services are usually not trans-portable - think of hospitals, restaurants, andstores-and some larger service organizations (suchas Wal-Mart Stores and Target in discount retailing)have achieved economies of scale that ensure pro-tected local market positions. The local nature ofmany service businesses diminishes the invigorat-ing force of competition and may cause efficiencygains at the company level to dissipate at industry-wide and economywide levels. For example, im-proved retail efficiency will not always translateinto lower prices or higher quality at the local level.Instead, such improvements may simply spur entryby new competitors with access to the operating ef-ficiencies involved. Their entry, in turn, may notdrive down prices or drive up the quality of service;instead, it may divide the existing sales in the mar-ket more finely among local competitors. Fixedcosts are then spread out over a smaller sales base at

The government's most important contribution maybe to minimize the demands it makes on the

attention of business leaders.

consultants or contract employees, defeating theoriginal objectives.

Careful workforce planning is much more impor-tant for productivity improvement in services thanit is in manufacturing. Such planning must be apart of any reengineering, quality-management, orother technique-driven approach to performanceimprovement. It also should be noted that this typeof plarming can reduce or eliminate the likelihoodof the kinds of careless layoffs that have received somuch negative press of late.

Fourth, the nature of competition differs in thetwo sectors. Manufacturing output is transport-able, and economies of scale are either global ornonexistent. Competition among manufacturers iscorrespondingly global, and that has importantconsequences. Manufacturing companies do notenjoy local niches sheltered from the full force offoreign competition. In the 1970s, the weaknessesin U.S. manufacturing were ruthlessly exposed, andweak companies were threatened with extinction.That was perhaps the greatest single factor in theU.S. manufacturing revival. Efficiency gains at in-dividual companies were rapidly translated intogains in the industry and the overall economy.

each company, which largely offsets the original ef-ficiency gains. Thus, at the industry level, theremay be little consequent productivity gain.

The Government's Role inProductivity Growth

Traditionally, economists have argued that thegovernment can improve productivity in the ser-vice sector by lowering the deficit and interestrates, improving education, and supporting re-search and development. Although all those mea-sures may be helpful, they are unlikely by them-selves to make a big improvement in the rate ofproductivity growth. The most important contribu-tion that government is likely to make in this effortis to minimize its demands on the attention of busi-ness leaders.

The first way it can do that is to maintain a stablemacroeconomic environment and avoid letting theeconomy slip into recession. Historical evidencesuggests that, on balance, recessions have a nega-tive impact on productivity levels. Moreover, theloss in productivity growth seems to be permanent.There is no significant evidence that recessions


are followed by higher than average productivitygrowth. In coping with the balance sheet, work-force level, cash flow management, and other con-cerns that typically confront companies during re-cessions, management's attention seems to bediverted from the everyday task of continuous per-formance improvement, and the resulting declinesin efficiency are long lasting. In our case studies, wesaw several instances in which large productivity-enhancing projects were delayed or scrapped duringsuch periods.

The second way the government can help the ser-vice sector improve productivity is not to overregu-late it. The point here is not, however, that regula-tory interventions are unjustified. When carefullyconceived, they can be quite beneficial to the coun-try's economic and social well-being. The point isthat regulation should be carried out in both spiritand practice to minimize the demands made onbusinesses' attention and resources. This meansthat if the government is serious about enhancingproductivity performance, it should formulate sta-ble, cooperative long-term regulatory policies,rather than aggressive responses to the latest crisis.

Securing Jobs Through HigherService-Sector Output

It has been claimed that recent improvements inproductivity - gained by reducing employmentrather than increasing output - are less desirablethan productivity gains achieved during a period ofexpanding employment. But that is not always thecase. One example is the spectacular long-termgrowth in agricultural productivity: the farm laborforce has been reduced to almost nothing, and yetthe sector is a foundation of U.S. prosperity. Simi-larly, although accelerating growth in manufac-turing productivity in the 1980s led to reducedmanufacturing employment, the change was bene-ficial to the U.S. economy as a whole. Overall em-ployment has continued to grow and has grownespecially rapidly for managerial and professionalworkers. (See the table "The Growing Ranks ofManagement in the Service Sector.") The presentproblem is not the creation of new jobs but ratherthe productivity of workers in those new, predomi-nantly service positions.

Keeping highly skilled workers in jobs in whichthey are not needed is no solution to the nation's

Employment Cotogory

Managerial, professional

Technical, sales, administrative support

Other service occupations

Total

1983

23.4%

31.0

13.7

68.1

1994

27.5%

30.3

13.7

71.5

productivity difficulties. The available evidence in-dicates that the great majority would succeed infinding new jobs. The U.S. economy has generatedan unending stream of new employment opportuni-ties, not just for laid-off workers but also for newimmigrants, the expanding native-born population,and the growing number of women entering theworkforce. The challenge is to ensure that their tal-ents lead to ever higher levels of productivity intheir new jobs, and that is ultimately a challengefor management. Managers must ensure that pro-ductivity levels in the newly created service jobsthat employ an. ever increasing proportion of theU.S. labor force are sufficiently high to provide forthe country's collective well-being.

Many factors complicate the task of achievinga management-driven revival in service productiv-ity comparable to that in manufacturing, hut theydo not put it entirely out of reach. Service sectormanagers may indeed have to be more focused andcareful in their approach to managing productivityimprovements. Due attention must be paid toidentifying and defining the roles and activities per-formed in the workplace; bringing to bear appropri-ate productivity-enhancing strategies to ensurethat important elements of job responsibilities arenot lost; implementing carefully conceived, paral-lel human-resources and workforce-managementstrategies; and maintaining the focus on perfor-mance improvement in the ahsence of global com-petitive forces and in the presence of many otherdistractions. However, there is undeniable evi-dence that leading-edge service companies do at-tain performance levels far in excess of those oftheir average competitors, and particular compa-nies achieve spectacular improvements. The man-agement challenge is clear. 5

Reprint 9 7410 To order reprints, see the last page of this issue.


managing our way to higher service-sector productivity

Documents

productivity revival

manufacturing sectorcannot

productivity grewat

service jobs

service organizations

service sectors size

service sector

united states