Capital in the 21st century

Capital in the 21st century

Businesses’ investment decisions can have huge, unexpected consequences

RICH economies are full of puzzles. What has caused them to become so unequal? Why is their rate of business investment so low? When will real wages start growing strongly again? In “Capitalism without Capital” Jonathan Haskel of Imperial College London and Stian Westlake of Nesta, a think-tank, offer an intriguing explanation for all these problems. In the process, they introduce a phrase that readers may hear a great deal more of in the coming years: “intangible investment”.

When people think about business investment, they tend to think of spending on real things, like factories, computers and machines. Yet Messrs Haskel and Westlake point out that such investment matters less and less to modern economies. Instead, they argue, investment in intangible assets—things you cannot drop on your foot—is more important. Intangible investment can include design, research, software and branding. It is a fundamentally different sort of investment, and one that has serious consequences.

The book makes its case in a lighthearted, conversational way that will appeal to economists and non-economists alike. The authors keep jargon to a minimum. Their writing has few numbers, let alone equations. Multiple case-studies bring the arguments to life. Nonetheless, this is no beach read. The authors draw on a range of rigorous research and include their own calculations to show that intangible investment is on the increase. One study suggests that in 1948, American intangible investment accounted for about 4% of non-farm business-sector output. By 2007 this had grown to 14%. Tangible investment hovered around the 11% mark over the period. Another estimate found that Microsoft’s physical assets accounted for just 1% of its market value. The expertise of Microsoft’s engineers and the code they used were far more important.

However, the significance of intangible assets is often poorly reflected by statisticians. Official economic data do include some intangible activity, such as spending on software, in measures of investment spending, but often exclude many others, such as branding. American company accounts often omit R&D from measures of their investment spending. But including intangible assets can have a big impact.

It is often said, for instance, that British businesses invest little compared with those in other countries. Yet Britain is an intangible-rich economy, full of scientific firms and design studios. Once intangibles are included, Britain looks less of a laggard. (Data still suggest that across the rich world overall investment has fallen since the financial crisis of 2008-09.)

Messrs Haskel and Westlake do not simply recommend improvements in statistics, but also explain the significance of intangibles. They argue that intangible investment has a number of special properties, which will make themselves felt as this sort of investment becomes more important. While the authors may overstate the novelty of some of their ideas, they combine them in a new way.

For one, intangible investment is “scalable”. Businesses which use intangible assets can grow more rapidly, and to greater sizes, than those using tangible ones. A family-run taxi firm that owns a fleet of cars cannot easily grow; doing that requires them to expand their fleet, at great cost. By contrast Uber, a car-hailing app, which owns few of the cars that use its platform, can export its code across the world.

Intangible investment also exhibits large spillover effects, argue Messrs Haskel and Westlake. A business investing in a factory, a form of tangible investment, can easily prevent its competitors from taking advantage of that investment (say, by putting a guard at the gate). Excluding rivals from profiting from your intangible investments is harder. Software developers use online repositories such as GitHub to share code. Steve Jobs, a former boss of Apple, was known to grouse that Google’s Android operating system was hardly different from Apple’s iOS.

The scalability and spillovers associated with intangible investment may help explain some of the big puzzles of advanced economies. In recent years, the gaps between the most successful firms and the weakest among them (“frontier firms” and “laggards”, in the jargon) have widened in everything from wages to profits. Whereas 1% of British firms have seen annual productivity growth of 6% in recent years, a third have seen none at all since 2000.

Why is this? Frontier firms increasingly rely on intangible investment, so they easily spread their ideas across the world, reaping big rewards. But laggard firms, perhaps largely relying on tangible investment, cannot. Most of the rise in income inequality in rich countries, the authors point out, can be attributed to growing inequality between firms, rather than within them.

The rise of intangible investment may also explain why, since the financial crisis, there have been high rates of profitability and relatively low rates of business investment. If returns on investment are so high, then why is investment so weak? With the idea of spillovers in your head, it becomes easier to understand. Laggards may have little incentive to invest, since they are worried that frontier firms will gobble up their innovations. That can bring down the overall rate of investment and thus productivity (and wage) growth. The frontier firms, however, are happy to invest. They make high returns in part because they have the expertise to make the most from such investment and in part because they are less concerned about smaller firms stealing their ideas (the local taxi firm cannot hope to copy Uber’s algorithms).

At times, the reader may feel that the book oversells its case. The authors seem to believe that intangibles can explain pretty much anything, from high levels of executive pay to the election of President Donald Trump. It could also have been better edited: it offers twice in the space of three pages, for instance, Peter Thiel’s observation that it is easier for Twitter to scale up than it is for a yoga studio.

Yet the book also has a deeply practical streak. It offers policymakers advice on how to help the intangible economy thrive. If not enough intangible investment is provided by the market, governments could step in. They should ensure that digital infrastructure—broadband and the like—is top-notch. Governments need to encourage people to live in cities; sensible planning regulation is thus vital. Policies such as these are all well and good, but after putting down the book the reader is left with another sobering thought. The economy is becoming winner-take-all, and will become ever more so.

Source: The Economist, 2017. 222nd, found on WeChat Official Account “外文杂志报刊"

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