Aging Equipment and its Effects on Productivity

ABSTRACT

The growth rate of total factor productivity (TFP) has fallen sharply since 1990, causing a slowdown in the economic growth. The sharp rise in the average age of capital observed in the same period hints its close relationship with the drop in TFP. The theory of capital embodied technical progress provides the concept for organically relating the two. It enables the extraction of the impact of the age of capital by breaking down the TFP growth rate by factor.

While the rapid aging of capital is observed in almost all industries, its impact on the TFP is more serious in manufacturing. The negative TFP effect has been stronger in the electric machinery sector than in others, despite the slower aging of capital compared to the materials sectors, such as steel and chemicals. This is attributed to the higher pace of technical progress in the electric machinery sector than in others, which quickens the pace of facility obsolescence when new investments are curbed.

An evaluation of capital stock should also view qualitative changes, not only the issue of quantitative surplus. To raise productivity and competitiveness, measures should be taken to rejuvenate capital stock by scrapping and building. The U.S. Economic Recovery Tax Act implemented in 1981 is an example. Accelerated depreciation based on reduced assets life should be reviewed also in Japan. We should focus on tax reform, not tax cuts, of Reaganomics taxation from the viewpoint of introducing policy to stimulate investment in Japan.

Reducing corporate taxes alone, as proposed by some, will only blur the focus and blunt the policy as it benefits even companies that do not make new investments. What is truly required is to reaffirm that only companies with a positive stance towards new investments contribute to growth. Efforts should be made to build a policy framework that would help and proliferate such "growth companies." If the recovery of competitiveness is the real objective, policymakers should immediately rid their agenda of finance-backed measures, such as theexpansion of public investments and government guarantees for loans to small- and mid-sized companies.