The Ignorant Investor

It's conventional wisdom that the American consumer has been keeping the economy going for years now. This phenomena is a little unusual, from what I understand, because strong spending by businesses on capital equipment tends to kick in very early in the traditional business cycle. It then drives a growth in employment, which then gives consumers more money to spend and pushed profits higher.

Now that the consumers are becoming "stretched" or "tapped out" in the vernacular of the financial press, bullish members of the Wall Street community are looking towards businesses to step up to the plate and replace consumers in the spending frenzy. Cap-ex, I'm told, is going to shoot up and start driving profits. Stocks will move higher, and we won't see a recession in 2006 or 2007. Or maybe ever, if you believe some of these guys.

What I don't understand is why a business would invest in more equipment at this stage of a mature business cycle. The last recession ended years ago. If consumer demand is expected to fall, then current levels of cap-ex spending should be sufficient to meet the levels of production necessary to satisfy that demand. Who buys a new machine to make more widgets when everyone thinks that the market will want fewer widgets next year?

Basically, if businesses haven't decided to toss money at building new capacity over the past year or two, it's hard to accept that they'll change their minds now.