Business orders for equipment rise despite higher borrowing costs

REAL ECONOMY BLOG | July 27, 2023

Authored by RSM US LLP

Business investment on productivity-enhancing equipment continues to be one of the brightest spots across the U.S. economy.

Encouraged by spending on infrastructure and manufacturing, along with the promise of artificial intelligence, businesses were not afraid to spend more on capital goods, which should help boost the economy for years to come.

New orders for core capital goods, a proxy for business investment, came in higher than forecast in June, rising by 0.2%, the Commerce Department reported on Thursday.

That was equivalent to a 2.6% increase for core capital goods orders on a three-month moving average annualized basis, up significantly from 0.8% in the prior month.

While shipments of the same category stayed flat in June, the three-month moving average annualized rate rose to 1.9% from 1.5%.

Strong business spending was consistent with Thursday’s report on second-quarter gross domestic product, which showed a significant 9.7% increase in equipment spending after dropping by 8.9% in the first quarter.

Inside the capital goods report, growth was broad-based. Orders for computers, electronics and electrical equipment led the increases of core capital goods, rising by 1.5%.

A bumpy road ahead

But can this momentum continue? The answer will come from real interest rates—the true borrowing costs after inflation is controlled for—as they turn positive while the Fed holds rates steady amid falling inflation.

In principle, rising real rates should make it harder for investment spending to grow further. But as competition in the age of artificial intelligence increases, investment on critical infrastructure and equipment is more of a necessity than a luxury.

That implies a K-shaped path for investment, with cash-rich companies continuing to spend on new technologies like AI while others that are struggling with debt pull back on spending.