Paltry Fixed Investment Ringing Alarm Bells

Includes: FSLR, MMM, TOL, TSL, XLU
by: Jason Tillberg

Give an able Man a fish, he'll eat for a day.

Give an able Man an opportunity to do an honest weeks work for an honest wage from someone with capital so that his surplus wages can be used to purchase a fishing pole, then teach that Man to fish, he'll eat for a lifetime.

With his fishing pole, he'll be able to catch up to 20 fish a day, enough fish for both himself and enough he can sell in the market to earn capital. In due time, with enough capital saved, he can then make another fixed investment, a fishing boat and some nets. Now he can catch up to 500 fish a day.

From these capital investments, his productivity increased and his income increased with it. That's economic growth in its simplest form.

Both his fishing pole and fishing boat however will wear and tear and eventually need replacing. So it would be critical that he continues to save his surplus capital so that it will be available when he needs to replace his tools that make him a productive fisherman.

Fishing poles and fishing boats would fall under the category of fixed private investment. Here is a chart of fixed private investment in the U.S. since 1947:

Fixed private investment as a percent of GDP:

As you can tell, it has tanked since the end of the recession.

Here is a chart of public construction spending, which includes roads, hospitals, schools, power, sewage and waste, etc. going back to 1992:

Total public construction spending as a percent of GDP:

Public construction spending has been declining for 3 years straight.

On the other hand, personal consumption expenditures have been on a very strong rebound since the end of the last recession. Here is a 5 year chart of PCE:

Here is a chart of PCE as a percent of GDP over the last 5 years:

This entire recovery was based more so on consumption Vs. investment. This will likely have dire consequences on future rates of productivity.

Over time, we have experienced a continued prosperity through gains in productivity from public construction and private fixed investments. From the building of the Erie Canal to the last mile of asphalt road laid out, these investments in turn have raised our standards of living and have also contributed to our economic growth as we are able to get more output per man hour worked.

Here is a chart of business sector output per hour:

The units to the left in the chart above could be look at as being the number of fish caught per day per fisherman on your boat. Better fishing equipment, faster boats, better fish tracking technology may have all contributed to the rise in the average number of fish caught per day.

When I chart out the percent change in output per hour over 5 year periods, the chart looks like this:

Below is the chart again of fixed private investment as a percent of GDP. What we'd be looking for is a correlation between high rates of fixed investment to what the gain in productivity was 5 years later per the chart above:

My observations are that the poor rates of productivity in the 1970s leading up to the early 1980's were perhaps a result of low rates of investment throughout the 1960's and in the mid 1970's. To counter that, private investment soared in the late 1970's and remained above 16% of GDP until the mid 1980's; think computers.

Those high rates of fixed investment in turn stopped the decline in productivity rates, which bottomed around 1981 and rebounded strongly up until the late 1980's.

Low rates of fixed investment in the end of the 1980's up to 1991 didn't help in getting productivity up during the early and mid 1990's.

Another strong rebound in fixed investment from 1992 until about 2000 helped drive the 5 year productivity gain by 2006 to its highest level since the 1960's, 20%.

The last time we saw high rates of fixed investment was in 2007 when it was over 17% of GDP. But by 2010, it was below 12% of GDP and the most recent data shows its still under 13% of GDP, a level not seen since at least 1947.

The sub 13% of GDP fixed investment expendidure should yield poor future rates of productivity in the years ahead and that should be ringing alarm bells.

The consequences of low productivity growth will include the inability to make a product or service cheaper, so low rates of productivity would impact inflation to the upside, especially in a money printing environment.

With respect to the Feds QE policy to get long term interest rates down, one major risk is an uncontrollable rise in inflation to which the free markets would absolutely demand higher rates of return on their dollar based investments. That would cause the bond markets to collapse and threaten the entire financial system.

Federal Government spending, which increased personal current transfer receipts substantially while we have run these $1 trillion + deficits over the past 4 years has helped the consumer economy.

Here is chart showing personal current transfer receipts as a percent of GDP:

Here is a chart of total public construction spending as a percent of GDP:

This graph below of power outages across the U.S. should be a wake up call as well to the dangers of not keeping up with fixed investment:

How about instead of investing in Trina Solar (NYSE:TSL) or First Solar (NASDAQ:FSLR) shares, investing instead in the solar panels they sell?

Rather than investing in 3M (NYSE:MMM) shares, invest in the 25 year life LED light bulbs they sell?

Instead of investing in utility stocks (NYSEARCA:XLU), why not invest in a generator so that you'll have backup in the event your power company's equipment fails?

Instead of investing in Toll Brothers (NYSE:TOL), why not invest in paying off your mortgage or invest in buying and fixing up an old house?

While it should be expected that we get a very strong rebound in both private fixed investment and public construction spending, it has to be asked if the money will be there when needed? With over 85% of total Federal Government receipts are going toward personal current transfer receipts. This has in effect crowded out funds available for things like public construction spending.

Here is a chart of personal current transfer receipts as a percent of total federal government receipts:

The same could be said for the average household. The high price of gasoline is taking a greater and greater share of income from every household. In 2011, gasoline averaged $3.53 a gallon, a record high yearly average. The average American household was estimated to have spent $4,155 on gasoline, which would be 8.4% of an average household income in 2011, the highest percentage since 1981.

The current price of gasoline in the nation is $3.85 as of 3 days ago, before the Fed embarked on its QE3 announcement! Expect an even higher percent of household income going toward gasoline in the future years ahead, thus crowding out funds available for fixed investment in the aggregate.

As for corporate America, aggregate demand for goods and services should continue to fall with rising prices and lower incomes, especially as gasoline expenses crowd out expenses on other goods and services. Prices should fall to attract customers which in turn should cut into profit margins.

The lesson of this article is to remember to invest in your own physical estate with fixed investments so to both improve your living standards and maintain them. Ideally, assets with a long life to them.

Get that fishing pole and learn to fish, you might need it one day!

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.