updated 2/2/2006 12:55:12 PM ET 2006-02-02T17:55:12

The efficiency of American workers rose in 2005 at the slowest pace since the recession year of 2001 while a key gauge of wage pressures rose at the fastest pace in five years, the government reported Thursday.

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The Labor Department said productivity rose by 2.7 percent last year while labor costs rose by 2.4 percent, the biggest jump since a 4.2 percent increase in 2000. For just the final three months of the year, productivity actually fell by 0.6 percent, the first decline since early 2001, and labor costs rose by 2.4 percent.

The combination of slowing productivity — the amount of output per hour of work — and rising labor costs was certain to attract attention at the Federal Reserve, which is worried that rising wage demands could trigger inflation problems down the road.

The Federal Reserve boosted interest rates for a 14th time on Tuesday and many economists are looking for at least one more rate hike on March 28 as the central bank tries to make sure that tighter labor markets do not trigger rising wage pressures that could push inflation higher.

The Fed’s concerns were likely to be increased by the report on the productivity of non-farm workers. However, analysts cautioned that even with the slowdown in productivity growth for all of 2005, it was still slightly above the average for the past 50 years, and was more than double the weak growth rates turned in during the 1970s and 1980s.

Since the mid-1990s productivity has accelerated as the economy benefited from the growing use of high-tech tools such as computers and the Internet.

Productivity growth rose even faster following the 2001 recession as U.S. companies laid off workers and succeeded in getting more output from smaller work forces. Productivity of non-farm businesses rose by 4 percent in 2001, 3.8 percent in 2003 and 3.4 percent in 2004.

The 2.7 percent gain in 2005 was the smallest since a 2.5 percent rise in 2001, the year the country was in recession.

Productivity is considered the key factor determining American living standards. Rising productivity allows companies to pay their workers more without having to increase the cost of production, which would boost inflation.

Former Fed Chairman Alan Greenspan was one of the first economists to recognize that productivity was accelerating in the mid-1990s and used that knowledge to convince his colleagues at the Fed that the unemployment rate could fall to lower levels without generating higher inflation.

Economists said the big issue confronting Ben Bernanke, who took over as Fed chairman on Wednesday, will be whether productivity will now stabilize at the 2.7 percent rate of growth turned in during 2005 or whether it will fall further in the coming year.

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