Do We Have Too Much Capital?

Nearly 20 percent of capital in the world’s two biggest economies is sitting idle. Are we saving too much?

There's been a lot of talk about the role of capital in the global economy lately, not least because of Thomas Piketty's book of the same name. Capital is an essential ingredient in the creation of most manufactured goods and many services as well. But what if we have too much of it, and what would happen if we had less?

Economists think about capital as one of the main inputs -- along with labor and technology -- in the production of just about anything. Allowing each worker to use more capital can raise his or her productivity, which may in turn lead to higher wages, but there's a limit to these benefits.

For example, imagine that you're working an office job using a regular computer and monitor. Having an extra screen on your desktop might help you to edit documents and keep track of multiple tasks. A third screen might also help a little, but a fourth or fifth might not make much difference. At some point, more capital doesn't make you more productive. The additional resources would be better used somewhere else in the economy.

You might think this sort of misallocation would be impossible in an economy growing at full speed, and that every bit of capital would be used efficiently. You'd be wrong. Only during wars has the Federal Reserve Board's measure of the share of capital being actively used in manufacturing, mining, and utilities topped 90 percent, and not always even then. At the moment, the United States is operating at about 78 percent of capacity in these industries. In the European Union, every country is at 85 percent or below in manufacturing, for an average of less than 80 percent overall.

Certainly, capacity utilization in the service sector might differ. But right now, 20 percent of capital in the world's two biggest economies may well be sitting idle. If distributed evenly, this would mean one out of every five computers, machines, and vehicles involved in production at every American and European business would be doing nothing. That's a lot of stuff -- with a global capital stock of close to $200 trillion just in regular financial markets, it could be worth $10 trillion or more. By comparison, the economy is much more efficient at using labor; an unemployment rate of 10 percent, which would be high by American standards and fairly normal in Europe, would suggest only 1 in 10 available workers was idle.

So why do companies have so much extra capital sitting around? For one thing, it's probably not always the same capital. As the economy changes to produce different goods and services with new technologies, the composition of the capital in use changes as well; these days, 3-D printers are replacing many other kinds of machines. Also, some capital might be obsolete, just like workers with skills that are no longer needed. And just like workers and their employers, some capital might be mismatched with its owners.

Yet there are other, more worrying factors that are likely contributing to a true glut of productive stuff. For instance, corporate bosses may buy capital just to use up the cash flow inside their firms. Even if they have no profitable opportunities to increase production, they may prefer speculative purchases of capital to returning the cash to investors via dividends; they keep hold of the money by turning it into physical property. In fact, some executives may be trying to build empires within their companies through the acquisition of capital; a bigger capital stock under their control may make them appear more important.

Another factor in the decision to purchase capital is its price. Most big companies buy new capital by raising money from lenders and investors. When interest rates fall, capital becomes cheaper for reasons completely unrelated to the productive capacity of the capital itself. Managers and executives may buy more capital simply because it's cheap; they may or may not use it in the future, but the risk attached to the purchase gets smaller when interest rates fall.

As anyone who follows the global economy knows, interest rates have been at or near all-time lows in advanced economies for several years. Central banks have been pouring money into the markets, in the hope that lenders would open their wallets, companies would make new investments, and more workers would get new jobs. Yet even in boom times, the capital stock is apparently overgrown; the utilization rate in the United States hasn't hit 81 percent in the industries followed by the Federal Reserve since the third quarter of 2000.

Over the entire economic cycle, the capital glut depends on households offering their savings to companies by buying shares or making loans. Investors are always looking for a place to put their money, and companies -- for whatever reason -- are happy to take it. Even when the companies have no profitable investments, they have ways of paying the investors a return; they can dilute the return to existing investors or cut into workers' share of revenue. An excess of capital is the result.

Basic economic models don't account for the possibility that an excess of capital could persist for years at roughly the same level. They assume that diminishing returns would prevent the economy from generating enough income to maintain the bloated capital stock. Unless a 15 to 20 percent cushion really is either indispensable or unavoidable, this seems like a faulty assumption.

But what a powerful assumption it was. Years of economic policy have been devoted to accumulating more capital. Several of George W. Bush's tax cuts were directed at increasing the return on saving, expanding the capital stock, and spurring a higher level of capital-based innovation. Today, pundits, professors, and politicians continue to argue for lower capital gains and corporate income taxes. What if they're all wrong, and in fact we're saving too much?

It's not always easy to make people save less and spend more. Until recently, Japan was locked in a high-saving, low-spending, deflationary doldrums. Some of the reasons for high saving rates were likely demographic. But with prices dropping almost every year, money gained real value just by sitting under a mattress. Saving was a natural response.

In an economy that's growing at a healthier pace, raising taxes on wealth might do the trick. As I've argued in this column before, such taxes might speed economic growth by helping to allocate opportunities more efficiently. Yet their effect on saving is far from obvious. Someone trying to build a nest egg of a certain size -- perhaps for a college fund, retirement, or bequest -- will have to save more if taxes rise. Moreover, the improvement in living standards resulting from shifting from saving to spending would be strongest among those who saved the most; in terms of consumption, the gap between rich and poor would widen, even if it closed in terms of wealth.

Perhaps I'm getting ahead of myself, though. The first step down this road is to verify whether the capital stock is indeed too large. Why is so much capital sitting unused? How much churn is there in the inventory of unused capital? Are the Fed and its counterparts around the world measuring the right thing? Once we know the answers to these questions, we'll be able to confront what could be an enormous and yet broadly ignored inefficiency in the global economy.

Bill Pugliano/Getty Images


Space Jam

Is the Pentagon's plan for outer-space dominance as muddled as it seems?

In my last column, I wrote about Gravity and the threat of thousands of shards of space debris ripping through America's orbiting satellites -- and the global governance challenge that poses. This column considers the more prosaic, though important, matter of how U.S. civilian and military officials think about national security space issues. Indeed, one common concern that I have heard from government space officials and staffers is that senior civilian officials rarely think about the domain at all. When they do, it is primarily about "stars and the space shuttle," as one State Department official described it, or that space is an unfettered celestial extension of the blue skies above them.

U.S. government officials' perception of space as an uncontested domain free for exploration and observation is starkly at odds with both reality and current U.S. space policy. Based on my recent conversations with space officials and experts, six aspects of current U.S. government thinking about space are worth considering. 

1. Either someone in the intelligence community is lying, or they're on a totally different page.

It's difficult to know how to characterize the threat environment in space, in terms of the scope or intensity of threats, because intelligence officials offer widely contrasting viewpoints. In January, James Clapper, director of national intelligence, warned: "Threats to US space services will increase during 2014 and beyond as potential adversaries pursue disruptive and destructive counterspace capabilities." Then, in April, Lt. Gen. Michael Flynn, director of the Defense Intelligence Agency, noted: "I think we're in really good shape with space.... I'm more confident today than I was a year ago with where we are going with our knowledge of space activities."

2. Space deterrence strategy is clouded in secrecy.

Much like in the cyber domain, how the United States would deter malicious activities in space remains opaque. During a Senate hearing in March, Sen. Mark Udall (D-Colo.) asked Gen. William Shelton, commander of Air Force Space Command, a fundamental question: "Do you believe deterrence concepts work with space assets?"

Shelton replied: "That is a very difficult question because traditional deterrence theory involves two things. It is either denying benefits to an adversary or imposing costs on an adversary. But much of that deterrence is based on being able to see what capabilities the adversary has. Well, we do not make public in most cases some of the capabilities that we have. So there is no transparency there. So there is no deterrence."

At that same hearing, Douglas Loverro, deputy assistant defense secretary for space policy, was asked: "Should we have a clear position with regard to the consequences of aggression against a satellite of the United States?"

Loverro replied: "We view U.S. space assets as our sovereign assets and that attack on them is equivalent to attack on any sovereign assets. So we have stated in our national space policy that we intend to go ahead and defend those assets in times and place[s] of our choosing."

Thus, while the National Security Space Strategy requires that the military "prevent and deter aggression against space infrastructure that supports U.S. national security," there can be no deterrence in space because the Pentagon will not reveal its capabilities. Nevertheless, if an adversary attacks a U.S. space asset, it should expect some sort of retaliation, probably outside the space domain, against something it values. But this unwillingness to be specific and vivid about when the United States would retaliate against an aggressive act -- much as the Pentagon clearly does for using nuclear weapons -- makes this "inferred deterrence" less comprehensible and less credible, and thus more open to misinterpretation and miscalculation.

3. If you think space deterrence strategy is foggy, forget about offensive operations.

The Pentagon has operational plans for conducting offensive measures in space, but -- as a component of its deterrence policy -- how these will play out is shrouded in mystery. Military commanders describe operations in outer space as having "temporary and reversible effects" -- selectively disabling or disrupting another country's space capabilities through jamming, lazing, hacking, or spoofing. The intended military objective of such "offensive space control," as termed in joint doctrine, is likely to deny an adversary the ability to use its space capabilities during a terrestrial militarized dispute between that adversary and the United States. Ultimately, the context for what offensive capabilities will be used in which circumstances remains unclear, and though this leaves the opportunity for a wide variety of responses, it also understandably allows potential adversaries to assume the worst and develop their own offensive capabilities in response. 

4. The EMP threat really does have planners awake at night.

The one threat that sober U.S. officials and space experts are more worried about than I imagined is an electromagnetic pulse (EMP) event in space. Because it is championed by very conservative analysts as a threat that could eliminate life in the United States, people are extremely cautious and reluctant to even discuss it. Nevertheless, while emphasizing that it is an extremely unlikely occurrence, everyone I spoke to warned that it could not be completely ruled out.

The EMP scenario most often cited was: If North Korea believed that it faced an imminent military invasion intended to achieve regime change, it might detonate a crude nuclear device above the atmosphere, one that would release a pulse of gamma rays. The effect would depend on the height of the burst, its energy yield, its gamma ray output, and its interaction with the magnetic field. In a worst-case scenario, U.S. officials fear, it could disable huge portions of the electrical grid, thereby disrupting critical infrastructure that sustains communications, hospitals, transportation, and the economy generally.

This scenario, of course, would be inherently self-defeating because it would damage satellites controlled by China, which provides nearly 90 percent of North Korea's trade and 80 percent of its oil. Beijing would not be pleased. However, one senior Pentagon official told me without prompting that "North Korea could detonate a nuclear weapon in outer space, and it would not violate any treaty to which they are a party." Of course, if Kim Jong Un's back was against a wall, he would not be dissuaded by a treaty from authorizing such an irrational and devastating act, anyway. 

5. Contingency planning operations for a space event are in their infancy.

While contingency-planning crisis scenarios for the cyber domain have been conducted with President Barack Obama and his most senior aides, I was told that no comparable efforts regarding a catastrophic incident in space have taken place. The point of contingency planning for such scenarios is not just to consider prevention and options for mitigation should they occur, but also to socialize senior officials about the importance of the topic. How senior officials prioritize their time to consider issues not currently in their inboxes signals to the interagency what matters and what doesn't.

6. The administration's silence on space speaks volumes.

Although cyberthreats have received sustained attention from Obama and other senior officials, no senior administration official has made a statement exclusively about space issues since January 2012. That was when Secretary of State Hillary Clinton announced that the United States would not sign the then-draft of the European Union Code of Conduct for Outer Space Activities, but would pursue a broader international code that better reflected the positions of emerging space powers like India and Brazil. Since then, while various administration officials have "gone public" about malicious activities in the cyber domain, including purported attacks by China and Iran, the global commons of outer space has gone unmentioned, reinforcing the misimpression that the domain is far less critical and does not merit attention.

As a retired Air Force three-star general who focused on national security space issues put it, the way officials should think about managing and ensuring access to space is like how one would think about a utility. It doesn't necessarily require radical rethinking, but rather needs smart people, adequate resources, and constant attention to detail. The general added that his worry about the lack of focus on space is that, whereas cyberspace can be degraded or disrupted slowly, in outer space "you lose a few critical systems and you suddenly fall off a cliff in terms of reliable access." The policy steps required to reduce the likelihood of such high-consequence, low-probability incidents in space are well-known -- codes of conduct, shared space situational awareness, and more transparency -- but without sustained high-level attention, they will not be pursued or faithfully implemented. If the United States wishes to maintain its unfettered access to space, policy discussions must shift from "stars and the space shuttle" to mitigating threats of space debris and providing much greater openness and clarity about how the United States and others should behave in the domain, in peacetime and war.

NASA via Getty Images