Introduction
Today’s column continues the discussion on absorption capacity. This is on my list of top-ten development challenges, which spending of Guyana’s expected significant Government Take from first oil and first gas will have to contend with, starting 2020. Thus far, I have identified two broad approaches to the treatment of absorption capacity and, more importantly, its measurement. Measurement is a crucial consideration, if objective indicators of Guyana’s absorption capacity are to be established. This removes sole reliance on inferential reasoning and subjective indicators.
Both of the approaches mentioned, use the productivity of investment spending as a suitable proxy for absorptive capacity. Based on this, one line of analysis (as indicated last week) argues that the more productive is capital investment, the greater is its rate of return on investments. And, the reverse occurs, as the productivity of capital investment declines. Consequently, the greater the rate of return on capital investment, the better is the state of absorptive capacity in the economy. And, therefore, when absorptive capacity is more constrained, the lower is the rate of return and thus productivity of capital investment.
As pointed out in the last column, the other line of analysis is located in the macroeconomics of the circular flow of income. This stresses the indirect causal connection of increased capital investment to output and economic growth. Here, the effect of increased petroleum revenues is similar to that of any other autonomous injection of spending into the circular flow of income in an economy; for example, foreign direct investment (FDI) flows into Guyana’s economy; increased external assistance (foreign aid); or a significant improvement in the terms of trade.