Tomorrow’s income depends on today’s investment.
Troy Media – by Will Van’t Veld
Economic activity gets recorded in one of three areas: spending (governments/households), investment (business/government) or improvements in the trade balance.
With Canadian household debt to income levels north of 150 per cent and governments across the land trying hard to get their books back in order, this leaves higher trade or investment spending to push growth. Of the two, the latter is more likely.
While governments and households might be at their relative spending limits, corporate Canada is not similarly constrained. If anything, higher investment isn’t just sustainable, it’s necessary. Tomorrow’s income depends on today’s investment.
Now for the rest of the story
To be clear, out of a $1.7 trillion economy, Canadian investment spending is not trivial. Total new investment expenditure is expected to be just shy of $400 billion in 2012, according to a recent Statistics Canada release, and we can expect repair expenditures to add nearly another $100 billion. What needs to be made clear, however, is aggregate investment numbers don’t tell the whole story.
Under the traditional view investment spending is considered deferred income; its foregone gratification, done with the expectation that tomorrow’s living standard will be higher. That path, however, isn’t always clear, especially when we’re looking at aggregate numbers.
Public sector investment, which has been a big driver of economic growth, can also have a very strong impact on future productivity and output. One of the reasons Canada has been very successful as a commodity exporter, for instance, is because we have the public infrastructure in place to exploit it. The line isn’t always direct, and sometimes it’s a pure boondoggle, but for the most part government investment is necessary condition for future prosperity, enabling businesses to create prosperity.
Business investment and its relation to future production is far more clear-cut. An oil company that invests in an project today guarantees not only a stream of future income for the government and its shareholders, but also jobs related to keeping the facility operational for years to come. The same can be said of almost any bricks and mortar capital expenditure, but where the link between future growth and current investment expenditures becomes less clear is in machinery and equipment expenditures.
Every year technology is improving and it ultimately gets embedded in the machinery and equipment that ends up being used in the production process, making firms more productive and competitive and ensuring the investment doesn’t simply become redundant with time and discarded. This is especially important for manufacturers in areas that aren’t highly dependent on their location for their orders.
Information technology is playing a role in many fields, especially in the service sector. As the economy becomes more service-sector oriented, investment in this area is becoming ever more relevant. A common reason highlighted for America’s large jump in productivity over the years has been the very high relative investment by U.S. firms in high tech software and equipment.
The one area of investment that is not really related to higher future production is new housing investment. As the population increases, and the old housing stock depreciates, new housing investment becomes a necessity. But, as a society, it doesn’t represent future income similar to other investments (yes, we consume shelter, but is that the same thing as a new factory or tools that make it operational?).
Investment and technology 2 different beasts
Investment spending shouldn’t be confused with technological progress. The two are obviously related, as higher public investment in universities and private sector facilities dedicated to R&D will lead to new advances in technology, but often a new product or innovation doesn’t originally appear as an investment in official statistics.
The good news is that we are seeing increased investment overall, a preponderance of which is related to the energy sector, which will pay dividends down the road; the not so good news is that an investment in residential real-estate is now eating up 7 per cent of Canadian GDP and has been for a couple years now.
The highest the equivalent figure got to in the United States during the boom was 6.2 per cent; traditionally, the figure is closer to 5 per cent.
Will Van’t Veld is an economist with ATB Financial.