The Importance of Capital Spending

The importance of capital spending can be illustrat­ed by comparing productivity increases in Germany and Japan to that of the United States.

Over a 20-year period ending in 1988, West German business invested approximately 20 percent of its nation's GDP in new plant and equipment. During that time, productivity in manufacturing industries increased at a rate of over 5 percent a year.

In Japan, an average of 33 percent of the nation's GDP was invested in new plant and equipment over the same 20 years. As a result, Japanese manufac­turing productivity increased by approximately 11 percent a year.

By contrast, U.S. industry invested approximately 10 percent of its GDP annually in new plant and equipment. As a result, between 1968 and 1988 American productivity increased by less than 3 per­cent a year.

What Can Be Done to Encourage Capital Spending? Here are some common suggestions for increasing capital spending.

• Reduce the cost of borrowing. It costs money to borrow money. Some economists have urged the government to reduce all interest rates, or at least rates on loans used for capital investment.

• Eliminate the double taxation of dividends. Indeed, corporations can raise capital through the sale of stock. But often potential investors are reluctant to buy stocks because of the double tax­ation of dividends. Corporate profits are taxed once when the firm files its income tax return. They are taxed a second time as dividends when shareholders pay their personal income taxes. For that reason, many favor reducing or eliminating corporation income taxes or the taxation of divi­dends in order to stimulate plant and equipment investments.

• A Reduce or eliminate taxes on capital gains. Before 1986, profits ("capital gains") earned from the sale of stocks, bonds, or real property were taxed at a lower rate than ordinary income. One reason was to encourage investment. Since 1986, however, capital gains have been taxed at the same rate as other income. So to encourage capi­tal investment, President Bush and others worked to reduce the tax rate on capital gains. He was unsuccessful, and the political debate contin­ues over such reductions.

• Review governmental rules and regula­tions. It can take years for firms to recover the cost of a new factory or manufacturing process. If the "rules of the game" change before that time, firms could lose all or part of their investment. In recent years, concerns about the environment and worker and consumer safety have led government to impose new rules and regulations on industry. As a result, plants considered modern and safe when they were built have been scrapped or modi­fied. This has made many in the business commu­nity wary of investing in plant and equipment. Some say that businesses should be compensated for plant or equipment losses resulting from changes in legislation.

Date: 2015-02-16; view: 953