A warning sign for the economy?

Many economists and pundits take it on faith that weak business investment is a bad thing. It’s well-known that over the course of the business cycle, investment varies more than other parts of the economy, such as consumption. So, if investment is low, it may mean the economy is still suffering the lingering effects of recession. But if investment declines over the long term, it could imply at least two bad trends – either businesses don’t see many good opportunities, or society is becoming more short-termist in its thinking. For these reasons, most economists see falling business investment as a problem to be solved.

On one level, the evidence is pretty clear: Net of depreciation, privately held American businesses are only investing about 2 percent of the country’s gross domestic product in the U.S. itself.

This situation has persisted since the turn of the century. Gross investment, which includes replacing depreciated capital, has been little-changed from its long-term trend.

But it’s worth asking why companies are merely maintaining what they have instead of building lots of new factories and buying new ­equipment.

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In a pessimistic research note, Srinivas Thiruvadanthai of the Jerome Levy Forecasting Center asserts that companies aren’t investing because the future of the economy just doesn’t look very bright. One of his main pieces of evidence is industrial overcapacity. Capacity utilization, which is the ratio of output to an estimate of potential output, has been declining in the U.S.

That implies that companies aren’t even using all of the capital they have. Why build more buildings or buy more software when you’re not even using what you’ve got? Thiruvadanthai also notes that the estimated value of private assets is unusually high relative to total private value added, which implies that there’s a glut of capital sitting around not producing much of value.

One possibility is that this is being caused by a general shift from more capital-intensive to more labor-intensive goods – i.e., from manufacturing to services.

If the shift to services were responsible for weak investment, we’d expect hiring at hospitals and schools to more than outweigh declining employment in factories. And we’d also expect labor demand to push up wages. But neither employment nor wages has been particularly strong in recent years.

Thiruvadanthai, noting that investment is usually a good predictor of economic growth, pessimistically concludes that weak investment is a perfectly rational response to expectations of slow growth.

High price-to-earnings ratios on U.S. stocks would seem to contradict Thiruvadanthai’s pessimism. But recent economic research indicates that high profits – and therefore high valuations – are likely due to monopoly power rather than to capital becoming increasingly valuable.

One final alternative is that the direction of technological progress is becoming less predictable with time. If companies don’t know whether their capital investments will be rendered obsolete by the next cool new app or machine-learning algorithm, they will be unlikely to take the plunge and invest, even if the technological future looks bright. This possibility deserves more study.

If Thiruvadanthai is correct, then the government can’t and shouldn’t do much to prod businesses to invest more, beyond just trying to increase economic growth. But governments are always trying to increase growth anyway.

Perhaps economists are wrong to think of weak investment as a separate problem from the overall challenge of slow growth.

Noah Smith is a Bloomberg View columnist.