The Capital Formation Problem in the United States

It is well known that the behavior of business fixed investment in the United States during the present expansion has been extremely sluggish. In the fourth quarter of 1977, real investment outlays were two percent below their level during the peak fourth quarter of 1973. At a comparable stage of four previous post-war business "cycles" (excluding the short 1957-1960 "cycle"), real business fixed investment was 14 percent above its level at the previous cyclical peak.' When adjusted to exclude noncapacity-creating investment in pollution abatement equipment, the ratio of business fixed investment to GNP in 1977 was only 9.3 percent. During the decade 1965 through 1974, business fixed investment averaged 10.4 percent of GNP. Moreover, the investment that has taken place has been skewed toward equipment and relatively short-term projects and away from structures and relatively long-lived investments. Many observers have interpreted these data as implying an impending "shortage of capital" in the United States. Similar interpretations have been made for the major OECD countries, suggesting that the problem is worldwide in nature. The term "capital shortage" is always troublesome to an economist since if prices and interest rates are free to adjust, a market system will insure that shortfalls in industrial capacity do not persist. Given adequate lead time and an absence of impediments to the adjustment process, there is no reason to expect a chronic shortage of any type of productive facility. Is there then a reasonable case to be made for a national concern about capital adequacy? In my judgment, the legitimate arguments boil down to a perceived difference between the productive capacity investment we have or are likely to have and what we need in order to meet some national priorities. I would like to begin today by reviewing the thrust of these arguments.