Investment is Investment

by Don Boudreaux on May 7, 2007

The Washington Times today published this letter of mine:

Economic growth requires market-driven investment, and
investment requires savings. So the editorial "The GDP" (Editorial,
Saturday) was right to argue that a fall in Americans’ savings rate
threatens to reduce the U.S. economy’s growth rate.

But why do you often lament the U.S. trade deficit? The larger
is this deficit, the greater are the amounts that foreigners invest in
America. And the more that foreigners invest in America, the higher is
the U.S. economy’s growth rate. Research and development in the United
States funded with dollars from South Korea is just as productive as
the same R&D would be were it funded with dollars from South
Carolina.

If Americans truly are saving virtually nothing, we should be
especially pleased that foreigners so willingly save and invest on our
shores.

DONALD J. BOUDREAUX

Chairman

Department of Economics

George Mason University

Fairfax

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spencer

So that is why nonresidential fixed investment has fallen from its 1981 peak of 14% of GDP

to only 10.5% now.

On the other hand your assumption that the foreign capital inflow is all going to investment even though there is a wealth of evidence that very much of it is being used to finance current consumption just might be a flawed assumption.

aschkan

I have always had trouble understanding the importance of a high savings rate. Ostensibly, spending 100 dollars at Wal-Mart is equivalent to an investment in the entire value chain of the products you purchased, with a couple dollars going to wal-mart, a couple to P&G, a couple to the trucking company, etc., and having a dividend in the form of the future use productivity gains from the products purchased. The money that you pay out in comsumption is just as likely to go to Citigroup's coffers as your savings account. Moreover, assuming a clearing market for consumable goods and investments, investment prices and goods prices should both reflect the prevailing cost of capital. Therefore, any money consumed or invested will be going to the same banks, and be redistributed through capital markets in the same efficient manner to the most efficient capital users.

As such, from a macro perspective, savings and consumption would have no discernable difference. In university I never received a square answer on why this does not hold, so Don, if you would?

Reid

I agree with Don's analysis but believe it is incomplete. GNP used to be significantly higher than GDP but the gap is narrowing. If current trends continue GDP will soon be higher than GNP. This is essentially the result of trade deficits that are recycled into into US equities.

Does it matter that GNP will fall below GDP? I'm agnostic and want a debate.