One of the unusual aspects of today’s economy is that while economic angst is running high amid ongoing inflation, the labor market continues to show signs of strength. Last week’s jobs report indicated strong job growth and continued low unemployment in California. Over the past year, a tight labor market has meant more bargaining power and wage growth for workers, but businesses have struggled with worker shortages and higher operating costs. As the US Federal Reserve continues to raise interest rates in an effort to cool inflation, worker productivity may be the key to balancing workers’ and businesses’ needs amid unstable economic conditions.

It would take quite a correction to jolt the labor market out of its current strong position. Job openings remain well above historical trends, as the California economy has now regained all of the jobs lost during the pandemic. While simmering down in recent months, job openings remain high. For the past full year and for first time in decades, California has more job openings than job seekers. While this is good news for people looking for work, it also limits businesses’ workforce plans and growth—and wage increases have put upward pressure on prices.

This tight labor market gives workers greater opportunity. Most economists believe the historically high quitting rate (above 2%) over the past 20 months is tied to the historically high share of job openings: with ample job openings, workers can quit more readily, knowing they are likely to find another job quickly. The share of workers quitting started to climb in April 2020, reaching a peak in February 2022. But since the spring, job opening and quitting rates have decreased notably and consistently, perhaps indicating a reversion to more typical patterns. Lastly, as of September, the rate of layoffs was still historically low; however, recent mass layoffs in the tech sector may change this picture going forward.

Because there are few Californians looking for work relative to job openings, businesses seeking to hire have a harder time of it. This, in turn, can lead to a bidding up of wages to attract and retain workers, as we’ve seen notably in the leisure and hospitality sector. It may also dampen layoffs if an economic downturn comes soon, because employers have weathered a difficult period of hiring and may be hesitant to lose their workforce.

All of this sounds good for workers and difficult for businesses. However, today’s tight labor market can spell greater economic returns to both workers and businesses under the right conditions. Increases in wages are sustainable when they are undergirded by improvements in productivity. This can come from changes in business practices, capital, and technology that unlock the skills of the workforce. While productivity is notoriously difficult to quantify, official measures suggest the productivity of labor in California increased over 2020 and 2021. However, national data for this year suggests labor productivity has begun to subside.

What can policymakers do to support improvements in worker productivity? During the pandemic some businesses and sectors invested in technology in order to survive when face-to-face operations halted—such investments may have been possible due to federal and state business grants and loans. While some technology (like self-service kiosks in fast food restaurants) may reduce the number of workers a business needs, it also helps their workforce be more efficient and productive, allowing workers to command a higher wage. By supporting education and training, government is a major player in productivity-enhancing investments on the individual side as well. While the pandemic curtailed educational trajectories for some young adults who stopped or slowed their college plans, ongoing state investments in education and training, if used effectively, can help support productivity gains—and economic mobility—in the long term.