I have maintained for some time now that the key ingredient missing in this long, yet lackadaisical, recovery has been business investment, or cap-ex spending. So why---contrary to the dominant (among policymakers and their advisers) economic theory (Keynesianism) of our time---is capital investment more important to the health of the economy than consumer spending? James Mill, as quoted in Steven Kates's excellent book Say's Law and the Keynesian Revolution, stated it beautifully:
If one takes the annual produce of a country, writes Mill, and divides it into two parts, that which is consumed is gone. On the other hand, that portion which is used in the production process returns in the following year, with a profit. The more of the produce of a country that is devoted to productive uses, the faster that country grows.
Not to suggest that consumption isn't important. Of course it is! I mean, we produce so that we may consume. Our problem lies in the literally backward ideology that puts consumption ahead of production. Paul Krugman's favorite line (or one of his favorites) is "my spending is your income and your spending is my income"---as if all we need to do is ramp up spending and everyone's income will be taken care of just fine. Seriously, that's what the man preaches! While, in reality, my production generates my income, which allows for my spending on your production (and my saving/investing which provides capital for businesses), which generates your income, which allows for your spending (and " "), and so on.
Okay, enough with the econ lecture.
Suffice it to say that cap-ex is a very very big deal. Businesses expanding leads to growth in production, employment and, yes, consumption. And that's why, as an investment consultant, I track it. And it's been atypically low these past few years.
Companies have cash, we know that from the reports, and from the recent pickup in share buybacks, hiked dividends, mergers and acquisitions---all bullish phenomena for stock prices. However, not what we're looking for in terms of healthy, sustainable, economic growth.
The good news is I'm seeing some signs of a cap-ex pickup. For example, last week's NFIB Small Business Optimism Index suggests an upward trend in capital outlays from the backbone of the U.S. economy---small businesses. I expect, ultimately, the same from large companies as well---although the Business Roundtable's 2014 CEO Economic Outlook (Q1), while showing a slight pickup in capital spending expectations, was nothing to get too excited about: 48% surveyed said they expect to increase cap-ex going forward (vs. 39% to start 2013). So why, 5 years into this recovery, are cash-rich companies unwilling to aggressively expand their operations? According to the survey:
56 percent of CEOs said they would invest and hire more if Congress and the Administration were to cooperate on business tax and immigration reform and move forward on free trade agreements with European Union and Pacific nations.
More than 70 percent said that expanded U.S. trade opportunities would have a positive effect on their businesses, with 42 percent saying they would hire additional employees if global trade expanded.
Nearly 9 in 10 CEOs (89 percent) said regulation has had either a moderately significant or very significant material impact on their investment and hiring activities.
And what have I been telling about free trade all these years? Sorry, couldn't help it...
The (ultimate) bottom line: If companies are to compete in this ever-globalizing marketplace, they'll have to step outside their comfort zones and put new capital to work. It's just a matter of time...
Click here for part 1, here for part 2 of this series.