A quiet revolution is transforming investing into business

Eight decades ago, investment was between 10 percent and 15 percent of GDP and has grown at an average annual rate of 5 percent in recent years, economists Shannon Seery Grein and Tim Quinlan said in a note Wednesday, calling the numbers top as “facade of simplicity”. But there is more to the story.

“In short, the composition of business spending has undergone a quiet revolution,” Wells Fargo said. “The term ‘capex’ used to conjure up images of machinery and heavy equipment. It is being replaced by generative artificial intelligence and software.”

In the 1990s, equipment accounted for more than half of capital spending, the bank said. But in the 20 years since, the share of equipment spending has fallen, while the share of intellectual property has risen.

Investments in “intellectual property products” (IPPs) – which include software, research and development, as well as entertainment, literary and artistic content – ​​now account for the largest share and account for almost all of the growth in the current cycle.

“What was once an afterthought for companies calibrating investments has become the primary source of investment,” Wells Fargo said. “These shifting priorities of software over physical capital have affected equipment purchases and affected overall manufacturing activity in recent years.”

In fact, the Institute for Supply Management’s manufacturing index has been anemic for months, and a surprisingly weak reading earlier this month sparked fears that the economy could be headed for a recession and a global inventory bloodbath.

But looking only at the production side leaves out power elsewhere. Over the past five years, IPP spending has grown more than 30 percent, while equipment spending has been virtually flat, according to Wells Fargo.

The trend predates the AI ​​frenzy sparked by OpenAI’s ChatGPT in 2022 and even the pandemic. But the current wave of spending is the fastest since the technology-fueled boom of the mid-1990s, economists said.

“Even though PPI spending was gaining momentum before the pandemic, growth has accelerated recently,” the bank added.

And within the IPP, software spending stands out in particular. Last quarter, it was nearly 60% above pre-pandemic levels and is currently running more than three times faster than R&D, which has been eclipsed by software as the largest category in recent years.

Indeed, tech giants investing heavily in AI, such as Microsoft, Alphabet and Meta, have signaled that they will continue to pour billions into the space. The trio spent a total of $40.5 billion on the infrastructure, land and chips that power their AI services during the second quarter. And each company has indicated that those numbers will only increase next year.

Aggressive software investments are an early sign of AI adoption and could lead to productivity improvements, Wells Fargo said.

Outside of PPI, businesses also spend in other technology-related areas, including high-tech facilities and information processing equipment.

“There is no guarantee that this technology-focused spending will cause productivity growth, but to the extent that it does, it would be good for growth,” the economists said. “Productivity can raise living standards and real income, which can fuel consumption and increase profits.”