Monday, April 13, 2015

Documenting the Investment Slowdown

There's a bubbling controversy over the "secular stagnation" hypothesis that investment levels are not only low, but likely to remain low. I've posted some thoughts on the controversy here and there:

I'm sure I'll return to the disputes over secular stagnation before too long, but for now, I just want to lay out some of the evidence documenting the investment slowdown. Such a slowdown is troublesome both for short-term reasons, because demand for investment spending is part of what should be driving a growing economy forward in the short-run, and also for long-term reasons, because investment helps to build productivity growth for increasing the standard of living in the future. The IMF asks "Private Investment: What's the Hold-Up?" in Chapter 4 of the World Economic Outlook report published in April 2015. Here's a summary of some of the IMF conclusions: 

  • The sharp contraction in private investment during the crisis, and the subsequent weak recovery, have primarily been a phenomenon of the advanced economies. For these economies, private investment has declined by an average of 25 percent since the crisis compared with precrisis forecasts, and there has been little recovery. In contrast, private investment in emerging market and developing economies has gradually slowed in recent years, following a boom in the early to mid-2000s.
  • The investment slump in the advanced economies has been broad based. Though the contraction has been sharpest in the private residential (housing) sector, nonresidential (business) investment—which is a much larger share of total investment—accounts for the bulk (more than two-thirds) of the slump. ...
  •  The overall weakness in economic activity since the crisis appears to be the primary restraint on business investment in the advanced economies. In surveys, businesses often cite low demand as the dominant factor. Historical precedent indicates that business investment has deviated little, if at all, from what could be expected given the weakness in economic activity in recent years. ... Although the proximate cause of lower firm investment appears to be weak economic activity, this itself is due to many factors. ...
  • Beyond weak economic activity, there is some evidence that financial constraints and policy uncertainty play an independent role in retarding investment in some economies, including euro area economies with high borrowing spreads during the 2010–11 sovereign debt crisis. Additional evidence comes from the chapter’s firm-level analysis. In particular, firms in sectors that rely more on external funds, such as pharmaceuticals, have seen a larger fall in investment than other firms since the crisis. This finding is consistent with the view that a weak financial system and weak firm balance sheets have constrained investment. 
I'll just add a couple of figures that caught my eye. Here's the breakdown on how much investment levels have fallen below previous trend in the last six years across advanced economies. The blue bars show the decline relative to forecasts made in spring 2004; the red dot shows the decline relative to forecasts made in spring 2007. These don't differ by much, which tell you that that the spring 2004 forecasts of investment were looking fairly good up through 2007. The dropoff in investment for the US economy is in the middle of the pack.

It's also interesting to note that the cost of equipment has been falling over time, driven in substantial part by the fact that a lot of business equipment involves a large does of computing power, and the costs of computing power have been falling over time. Indeed, one of the arguments related to secular stagnation is that the decline in investment spending might in part be driven by the fact that investment equipment is getting cheaper over time, so firms don't need to buy as much of it. An alternative view might hold that as the price of business equipment falls, then firms should be eager to purchase more of it. Again, I won't dig into those arguments here, but the pattern itself is food for thought.