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The Puzzle of Manufacturing Sector Investment

Investment in the manufacturing sector has lagged behind the rise in profits, cash flow, overall manufacturing activity and other drivers of investment since 2002. After reviewing several benchmarks that illustrate the lag in investment, various explanations as to why investment lagged are discussed. These explanations include: a lack of “animal spirits”; a capacity overhang from the late 1990s; rising structural costs; increased investment of U.S. firms overseas; the desire on the part of companies to improve their balance sheets and liquidity; and, significantly, increased spending on intangible investments (research and development, advertising, process improvements like “lean” manufacturing, employee training, and those information technology expenditures that are expensed). It is too soon to tell if the lag in capital expenditures will persist. But even if there has been a secular change in the pattern of investment spending, whether it will have negative impact on the economy in terms of productivity growth (and ultimately economic growth) or whether it implies a diminished role for manufacturing in the U.S. economy depends on the reasons for the change. If lagging investment is a result of, say, structural costs, it would have a negative impact. If, however, reduced capital expenditures reflect a shift toward intangible investment, then productivity growth need not be diminished and in fact could be raised.