The sluggish recovery of real net domestic private business investment.

• Author: Higgs, Robert
• Position: Etceteras ... - Essay

Making sense of economic fluctuations is a daunting task. The economy comprises a gigantic set of interrelated assets, inputs, processes, transactions, and outputs, and its dimensions can be and have been measured in countless ways. If we are to speak sensibly about the economy as a whole--recognizing that almost anything we say about the whole may not apply to various subsets of it--we must carefully choose the variables that hold the most promise for helping us to understand its broad movements.

Economists largely agree that net private investment is a key variable. Such investment adds to the private capital stock (with its embodied technologies), which makes inputs of labor increasingly productive over time--that is, net private investment (with the technological improvements it embodies) drives economic growth in the long run. And because private investment spending varies much more than consumption outlays (either private or governmental) in the short and medium terms, such investment also drives aggregate fluctuations in output and employment. When investment collapses, recessions ensue; when investment expands, so do output and employment. Economists do not agree, however, about why private investment varies disproportionately in the short and medium runs. Keynesians and Austrians, for example, disagree completely about the explanation of this disproportion and about its consequences.

My own view is broadly Austrian, which leads me to concentrate my analysis on net private investment as the key variable in explaining aggregate booms and busts. Of course, the Austrian view is not an "overinvestment" theory of the boom, but rather a "malinvestment" theory derived from the recognition that rapid expansion of artificial, bank-created credit pushes interest rates below market levels and thereby encourages an unsustainable volume of investment in longer-term investments. So when the bust ultimately occurs, as it must in these circumstances, the crucial requirement for a return to prosperity is a reconfiguration of the distorted structure of assets, employment, and outputs that the malinvestment-driven boom has created.

Nevertheless, it is also essential for recovery that the overall volume of net private business investment recover from its collapse during the bust--a collapse that sometimes, as in 2009, drives net private business investment into the negative range, where the total volume of new investment falls short of the amount...