Sunday, 28 June 2009

Latest data confirms fall in investment dominates the US recession

The final published revised figures for US 1st quarter 2009 GDP confirm just how dominated the current US economic downturn is by the precipitate fall in investment.

Figure 1 shows the percentage change in domestic components of US GDP since the onset of the recession, following the second quarter of 2008, up to the first quarter of 2009.

US GDP in this period declined by 3.1%. Personal consumption, however, fell by only 1.7% while government expenditure rose by 0.9%. In contrast private fixed investment dropped by 20.7%.

Figure 1

% Components Q2 2008

The trend may be equally clearly seen in Figure 2 which shows the change over the same period in the constituents of US GDP in constant price dollar terms - all figures using dollar prices of 2000.

Figure 2

$ Components Q2 2008

Two components of US GDP have actually grown, or improved, since the downturn commenced following the second quarter of 2008. Due to US imports falling more rapidly than exports US net trade has improved by $84.5 billion. Simultaneously government expenditure has risen by $19.5 billion.

The decline in US GDP is accounted for by a decline in inventories, personal consumer expenditure and private investment. Taking these in terms of their quantitative impact, inventories have declined by $53.1 billion, personal consumption expenditure by $143.3 billion and private fixed investment by $352.8 billion. The decline in US private fixed investment is therefore almost seven times the size of the decline in inventories and almost two and half times the scale of the fall in private consumption.

Analyses of the US economic downturn which focus on the decline in inventories or personal consumption therefore miss the main constituent of the recession.

Nor, contrary to statements by Paul Krugman and others, is the fall in US investment only accounted for by the decline in residential investment. From the second quarter of 2008 to the first quarter of 2009 the decline in US residential investment was $75.4 billion and the decline in US non-residential investment was $241.2 billion - i.e. the fall in non-residential investment accounted for more than three times as much of the declines in US GDP as the fall in residential investment.

These final US GDP figures therefore leave no ambiguity. The US economic downturn is being driven by a huge fall in investment.

This fall in investment will have clear short term and long term consequences. In the short term, in terms of the business cycle, as the investment decline is driving the recession, unless this is reversed it will be very hard for the US to escape from economic recession or stagnation.

Regarding the longer run modern econometric research clearly confirms that it is investment which has been the main driver of US economic growth - i.e. the old claim, associated with Solow and Kuznets, that it was productivity and technology, and not capital and labour growth, which drove economic growth has been shown to be factually false.

As Dale Jorgenson, former President of the American Economic Association and the foremost econometrician studying US economic growth, put it in a survey of the latest evidence in 2009: ''the growth of productivity was far less important than the contribution of capital and labour inputs to US economic growth.' More specifically he notes the evidence leaves no doubt 'investment is the predominant source of U.S. economic growth' [1]. The very sharp current decline in investment, in addition to its short term cyclical effects, therefore also undermines the main source of US economic growth - making it hard for the US to resume rapid economic development.

The investment driven character of the US downturn therefore has major short term and long term consequences for both the US and world economies.

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This article originally appeared on the blog Key Trends in Globalisation.


[1] Dale W. Jorgenson, Productivity Volume 1: Postwar U.S. Economic Growth, The MIT Press, Cambridge Massachusets 1995 pxv.

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