Businesses are using profits to invest, not hire

Business investment has rebounded quickly since the worst of the recession. Non-residential investment grew at 16.3 percent in the third quarter of 2011, making up 1.54 percent of the 2.5 percent GDP growth reported Thursday. Nevertheless, employment has still lagged behind as firms are reluctant to hire. Why? Part of the reason that investment rates are relatively high is that firms are still playing catch-up after the biggest drop in investment in decades.

“There was a dearth of investment even going into the recession, businesses cut back during recession, so there was a lot of pent-up demand for investment,” says Gus Faucher, director of macroeconomics for Moody’s Analytics.

Low interest rates have made it very cheap for firms to borrow, and equipment costs have remained low, so it’s been relatively easy for businesses to make these capital expenditures. And the tech sector, which has been more shielded from the bust, has fueled investment in informing processing equipment and software--a big contributor to investment growth.

Finally, because consumer spending and demand have remained low, businesses have been substituting capital for labor, directing corporate profits--which have remained strong--into the less risky sector of investment. ”If they take on workers, there’s a fixed cost to hiring. They are using their profits to invest rather than to hiring,” Faucher says. Nevertheless, Faucher believes that there will ultimately be a shift toward hiring as well, given the moderately optimistic signs of growth. “They’re going to reach the point to hire to keep up with demand,” he says. Though, as my colleague Brad points out, it’s still a long road to full employment.
(SOURCE: US TREASURY DEPARTMENT)