Investment: A Worldwide Boom

Investment is booming: not only in the UK but also in the US, Japan and in Europe. In this Briefing Paper we seek to understand why this is happening – a global phenomenon clearly requires a global not a local explanation – and to consider whether the boom will continue. To this end (and not in order to discriminate between alternative theories of investment), we examine the main theories of investment and show that recent developments are consistent with models based on the accelerator, or which emphasize the cost of finance or which depend upon stock market valuation effects. And, no matter which theory holds, the implication is the same: investment will weaken in 1989 and this is an important element in our forecast of slower world and UK growth next year.
But there is an alternative view, which implies a more optimistic outlook. The theories which we consider are essentially cyclical: they focus on the key role of (volatile) investment spending in the business cycle. It may well be that the present surge in investment is a long-tern, structural phenomenon reflecting either a shift in the pattern of world demand or the spread of computer-based technology, which has raised the efficiency of investment. In this case, and notwithstanding this year's surge in investment, tighter monetary policy and the stock market crash, the present boom in investment may have a lot further to run.     

Economic Viewpoint: Does broad money matter?

Last October the Chancellor of the Exchequer suspended the target for the broad money supply (£M3). It was reinstated in this year's Budget with a range of 11 to 15 per cent. Its growth is currently exceeding even that apparently generous target. (On the terms of the original Medium-Term Financial Strategy in 1980, the growth should have been cut to 5 to 9 per cent by 1983–4.) Does this rapid growth of £M3 matter? Does it raise the threat of higher inflation some time in the future, or can the government now readily abandon £M3 completely and concentrate instead on some other measure of the money supply – or indeed abandon monetary targeting altogether? The relevance of £M 3 as an intermediate target depends on whether there is a stable demand for it. We report econometric evidence which suggests that there is a stable demand for £M3, which depends, among other things, on the rate of inflation. We believe that the unexpectedly rapid growth of the money supply since 1981 partly reflects an adjustment of desired money balances to lower inflation. But once this process of adjustment is complete, monetary growth must be brought to far lower levels. We conclude that the government should continue to use £M3 as an intermediate target, supported, as at present, by a narrow measure.