Britain's level of investment has historically been poor, says David Smith. Nevertheless, the focus of investing decisions should remain firmly on quality ahead of quantity.
If you were to sum up the three economic priorities of this government, they would be (to borrow a phrase) investment, investment and investment. Not since Margaret Thatcher's first government nailed its colours to the mast of the money supply in 1979 has an administration come in with such a clear idea of how to tackle Britain's economic problems.
Chancellor Gordon Brown's July Budget had the title, 'Equipping Britain for our Long-term Future'. Intended as a statement of economic intent, it said: 'The performance of the British economy has for many years been poor by international standards. Over the past 25 years, Britain has experienced the slowest growth rate of gross domestic product per head among the major industrial countries. This poor economic performance is, to a large extent, a reflection of inadequate levels of investment in the UK economy. The Government wants to increase the quantity of long-term investment.'
Not all gloom and doom
On the face of it, it is a charge that seems well-directed. If we take the 35 years from 1960, investment in Britain averaged around 18% of gross domestic product (GDP), compared with 21% for the Organisation for Economic Co-operation and Development (OECD) - the industrialised countries' club.
Britain, according to the Treasury, has had the lowest investment-to-GDP ratio of any major industrialised country. Looked at a little more closely, however, the figures suggest the picture is not quite as black as is sometimes painted. Britain's historical investment-to-GDP ratio may be behind that of the US, of Germany and some distance adrift of Japan, but many industrialised countries appear to have suffered a relative investment decline in recent years. And on investment in machinery and equipment - traditionally (although perhaps erroneously) thought of as the most productive investment - Britain can hold its head much higher. Since 1960, such investment has averaged 8.4% of GDP here, better than the US and only just behind Germany.
The unspoken message and the evidence of our eyes whenever we visit the Continent is that other countries spend a lot more than we (and the Americans) do on public infrastructural investment, whose role in creating a better climate for business is not in doubt.
However, if we accept for a moment that there is a serious under-investment problem in Britain, why does British business not invest more? The first reason is that, as successive surveys have shown, companies set high target rates of return for investment. If projects do not meet these exacting standards, often rates of return of 15% to 20%, they get shelved. Second, and related to this, there is a strong case for suggesting that a reluctance to invest is based on the fact that Britain has had a more volatile economy than most other countries. If the next downturn or disaster is just around the corner then firms, perhaps unsurprisingly, have refrained from investing too heavily for fear of having to explain to shareholders or to bankers why an expensive, state-of-the-art piece of equipment has had to be mothballed.
The investment boom of the late l980s, which was encouraged by the corporation tax reforms introduced by Nigel Lawson as chancellor, is a cautionary tale from the past that still makes companies think twice.
UK: very, very volatile
Surely, however, such concerns are global? Well, no. One of the oddest bits of mea culpa from the Treasury, and also contained in Brown's first Budget document, was as follows: 'Since 1973, fluctuations in GDP growth have been larger in the UK than in any other G7 economy apart from Canada. This has been associated with a relatively high degree of inflation volatility.' A more stable macro-economic environment, which all governments strive for but few achieve, might encourage more investment.
British firms are also adept at choosing investment opportunities away from these shores. Foreign direct investment by UK companies is high relative to the size of the economy. Figures produced by Schroder's show that outward investment from Britain averaged nearly 3% of GDP over the 1993-95 period, compared with under l% for Japan, Germany, the US and France. British companies, in other words, may not be under-investors, it is just that they do a higher proportion of it overseas.
The final statistical point, which particularly relates to the apparently low level of investment during this recovery - manufacturing investment is some 13% below its 1990 peak - is that there appears to be a problem of under-recording, Business surveys have shown a consistently stronger picture than the official data. One source of under-recording may be that companies regard out-lays on computer software as investment whereas the official statisticians tend to regard these as consumables.
Nothing but the best
The big question, however, which takes us back to the quote at the beginning of this article, is whether raising the quantity of investment is a sensible policy aim. British business appears to be better at making assets sweat than rivals. Growth rates of capital productivity in manufacturing have been better than in most other countries over the past two decades. The hurdle of high rates of return may prevent a lot of projects from getting off the drawing-board but it should ensure that those which do get through are worthwhile.
The important point is that the emphasis should, in every case, be on investment quality, not just quantity. With a more investment-friendly tax system (which will require further effort from the chancellor), and a more stable economic environment, business will invest more. What it should never do is invest just for the sake of it. Quality is the watchword.