As I thought more about John Tamny’s column that I remarked on earlier, it occurred to me that a good deal depended on the marginal returns to capital investment so I did a little research. As it turns out the prevailing wisdom is that the marginal returns, i.e. whether as more is invested the returns are proportionally more, less, or the same, of capital investment go down with scale. That’s basically plain old supply and demand. The question remains what’s really happening?
The answer to that, apparently, as is the case with so many economic questions, is that nobody knows for sure. We can make some inferences, however, based on things that we do know something about, e.g. savings and business investment. As it turns out those are nearing historic lows:
In contrast, investment in the U.S. has been decreasing as a share of GDP since the 1960s, and the decline has accelerated since the financial crisis of 2008 (see Figure 5). Investment was about 20 percent of GDP in the 1960s, fluctuated considerably thereafter with the business cycle, but declined for the most part after the 1980s, never exceeding 21 percent of GDP after 1984. With the financial crisis, investment dropped to 14 percent of GDP in 2009 and has only recovered to 15 percent of GDP as of 2011. Other OECD countries followed a similar trend though at higher levels of investment. The average OECD country now invests about 20 percent of GDP. China, on the other hand, has seen a huge increase in investment, starting from about 20 percent of GDP in the 1960s to 48 percent of GDP today.
In other words Americans are behaving as though the marginal returns to investment are going down so it’s not unreasonable to speculate that they are, in fact, going down.
The follow-up question is who cares whether the marginal returns are going up so long as the absolute amount of real investment goes up?
I’m throwing myself on the mercy of the court here. Are the marginal returns to capital investment going down? Does that matter with respect to the advances Mr. Tamny is talking about? Does it matter as long as the absolute level of real capital investment doesn’t decline? And, if you answered “no” to any of those questions, isn’t there some level of return at which investment stops?
HAHAHAHAHA!
California imports foreign workers to process unemployment claims
It’s the Circle of Life.
The question you ask is a very important one, unfortunately we have no way to answer it. We’re stuck with the same problem of Piketty’s “wealth tax”: what is capital and what is not?
Being unable to measure it we can’t determine what returns are in relation to the capital stock. This is one of those things which reminds me of how little we really know.
Sraffa made clear the value of capital changes as the distribution betwen profits and wages changes, meaning the relationship between production methods and profitability is non-linear. The same method might be profitable at a high interest rate, unprofitable at a middle rate and profitable again at a low rate.
Obamacare – we added a 3% tax on capital gains to help fund……..consumption expenditures for health care, the biggest increase in GDP consumption in Q4 and Q3 of last year. And “progressives” cheer.
The Fed – creates a wild assed over valuation in equities, in an attempt to spur income for consumption……..income for, ahem, rich people who can buy another Ferrari, vacation home, Rolex or Hawaiian vacation. Progressives cheer PCE.
But to the question.
I think Ben is correct that we can’t measure the capital stock precisely, but we don’t need to. We know directionally where policy is moving us. The baby boomers especially have been narcissistic consumers who haven’t saved – put away capital/contributed to the capital stock – for retirement. Do they really need 5 flat screen TVs? It’s not for us to say. But it’s a culture that informs us on the phenomenon you cite, without forcing a calculation of returns.
Long term capital to GDP ratio?? How about the capital intensity of a manufacturing vs a service economy? Every time I walk through a new factory, or look at the capex budget for one of our companies, I’m impressed with the capital invested. Call me crazy but my hair cutter seems to be equipped a tad lighter.
And then we have the current administration. In an academic sense is the return to capital declining. I don’t know. But I do know that increased taxing of the return, government direction into wind mills or electric sports cars, regulations out the wazoo, encouraging incurrence of a decades worth of debt to get a psychology degree and a general snearing attitude about “you didn’t build that” don’t encourage capital formation or employment, no matter what IRR and cash on cash numbers are spit out of ones Excel spreadsheet.