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Politicians love investment. Partly it is the visual appeal: hard hats and construction projects make a great metaphor to illustrate how they will rebuild the country; a new science campus demonstrates the possibilities of the future; bridges and trains show how they are reconnecting a disjointed people. But the veneration of investment is a trap that many of us fall into: seeing it as the good kind of spending while consumption, its larger but less-loved brother, is unsustainable and unproductive. This perception, with its whiff of puritanism, is a mistake. A potential consumer-driven recovery from the pandemic is nothing to wring our hands about.
Economists separate spending into two rough categories: investment and consumption. In this context investment does not mean buying financial assets but producing real ones — everything from constructing office blocks and oil rigs to designing a new user interface for a mobile app. These are all goods and services used in production and so the idea is that having more should, eventually, make a country richer. Consumption is everything else, from food to furniture. Its purpose, beyond the necessities, is to make our lives better in the here and now.
The concern is that for all the enjoyment it provides, excess consumption means that societies are “eating the seed corn”, as the saying goes, failing to put aside resources that will maintain living standards into the future. Infrastructure spending or tax breaks that aim to boost investment are an easier sell as a route out of recession than stimulus cheques, which could be spent on frivolities.
However, the two categories of spending lump together the good and the bad. Investing in a redesigned corporate headquarters can be as self-indulgent as consuming a Michelin-star tasting menu. The British government’s planned royal yacht is unlikely to boost productive capacity. Consumption, on the other hand, includes health and education alongside entertainment. Vaccines may be “consumed” when they are jabbed into arms, but they are still a downpayment on the future.
China’s recovery from the coronavirus pandemic has focused on boosting investment and industrial production, putting the long-mooted “rebalancing” towards consumption on hold. The investment-led growth model has served China well so far, as it has for so many countries going through industrial revolutions. Higher living standards, for many poorer countries, follows higher investment as the increase in the capital stock gradually improves productivity and wages.
But capital spending quickly runs into diminishing returns, since there are only so many steel furnaces and housing projects that a country needs. At that point, growing the economy becomes more about improving productivity. Investment is still essential — to keep up with technology or to replace equipment — but alone it will not lead to a stronger economy. It is no longer about adding to the stock of seed corn but coming up with higher-yielding varieties or better farming techniques.
While there are specific problems that could be solved through targeted investment — Britain’s poor quality and expensive housing, Germany’s lack of fibre broadband, America’s mouldering bridges, the need to reduce carbon emissions everywhere — post-industrial rich countries are now at the point where more capital per worker will not do as much to boost growth as it used to. Among the G7 group of big advanced economies, there is little apparent correlation between overall investment and economic outcomes: the relatively slow-growing Japan tops the table, spending 25 per cent of its national income on capital, while Britain, similarly a laggard in terms of growth, comes bottom with 17 per cent.
Britain’s capital-light economic model, reflecting the high share of services in the economy, offers an advantage. According to Eurostat, the average Briton consumed about the same in 2019 as the average Finn, despite the fact that Finland’s national income per head was 6.7 per cent higher. Spending less on equipping factories means the average Brit spends more on recreation and hospitality. Higher consumer demand can increase productivity. As an Institute for Government report points out, London’s restaurants are likely to have “higher productivity” than those in the rest of the country because they have more customers, not better managers.
As Adam Smith said in The Wealth of Nations, the sole reason we produce anything is to consume. It is a sign of a successful economy if it provides the material conditions for a good life: the point of putting aside seed corn is that you can eventually eat what you grow.