Forecasting Expenditures for Plant and Equipment

Abstract

O~'~THER papers in this issue of the () Journal of Business deal with residential nonfarm construction and with change in business inventories. Over the seven years 1947-53 those two segments of gross national product have comprised about 30 per cent of gross private domestic investment. The other 70 per cent is the subject of this paper. It consists of business spending for new plant and durable equipment, farm construction and newequipment purchases, construction for private nonprofit institutions, and private spending by professionals for scientific and other equipment. In this seven-year period of high investment activity, the segment here considered has on the average amounted at current prices to 10.9 per cent of gross national product. Of this segment, twothirds of the dollar total has been for producers' durable equipment. In real terms, it has been more than two-thirds. Using 1939 prices as 100, the price deflator for producers' durable equipment has risen considerably less than that for any other segment of goods.' But the price deflator for construction has risen by far the most of any, so that in real terms the construction segment of our plant and equipment total is less than one-third. These sharply divergent price trends so offset each other that business capital outlays as a whole have not in real terms been a much higher fraction of gross national product than the 10.9 per cent in current prices. Persons interested in the short-term. forecasting of gross national product usually give more attention to the plant and equipment segment than can be accounted for by its modest average share in the total. This is partly because business-cycle theory maintains that this type of business spending is not so dependent upon current income as is the amount of consumer spending. This greater independence enjoyed by business capital outlays arises partly from the greater extent to which they may be externally financed. Also, much of business capital investment is for new products, new processes, or new methods. At times it is for the expansion of established industries and processes, and this expansion may or may not be in response to immediate pressures of demand. At other times, business spending for construction and equipment may be limited largely to replacement, and even replacement is often postponable. The special interest in business expenditures for plant and equipment springs not only, therefore, from its relative independence of current income. It arises also from the fact that historically such investment has been subject to wide fluctuations. These changes have, in turn, tended to generate positively correlated changes in other segments of gross national product. The generally high but varying degree to which the level of business investment is independent of the current rates of in* Robert Law Professor of Finance, University of Chicago.