One of the disappointing features of the UK economy in recent years has been the performance of fixed investment. The latest reading, for the first quarter of 2022, suggests that the volume of business investment is 9.5 per cent below its pre-Brexit referendum levels. While the extent of the decline has been exacerbated by the pandemic, even before 2020 there were signs that corporate investment activity had tailed off. In view of the fact that the government introduced a ‘super deduction’ for investment in 2021, designed to boost capital spending, the ongoing weakness of investment is worthy of further investigation.
Why does investment matter?
We can think of investment as additions to the capital stock which firms require in order to meet their expected stream of future output. Since the dawn of the industrial revolution the stock of fixed capital has steadily increased, allowing the economy to generate output more efficiently which in turn has resulted in a significant improvement in living standards. Investment is also an important driver on the supply side of the economy where the size and efficiency of the capital stock are key determinants of the economy’s speed limit (the potential growth rate). In short, investment plays an important role in wealth creation and companies that do not invest in their productive potential do not grow and in the long run are unlikely to survive.