2.2.3 Investment Flashcards
What is investment
Is the purchase of goods that are not consumed today but used in the future to create wealth
(spending on Capital goods)
What is included under the Capital goods, bought in investment
plant and machinery and infrastructure
cultivated assets (livestock and vineyards)
intellectual-property products - investment in software, research, and development (intangible fixed assets)
What is a Capital good
factories and machinery and equipment are useful not in themselves but for the goods and services they can help produce in the future
What is the difference between a Capital good and financial capital
financial capital are funds that are available to finance the production or purchase of real capital
What is gross investment
total investment on new capital inputs
What is Net investment
Is gross investment adjusted for capital consumption (depreciation)
Some new investment is needed each year to replace worn out machinery
If gross investment in a given year is higher than Capital consumption….
net investment will be positive and the size of an economy’s capital stock will grow
Since 1970, UK investment has been on average X% of GDP per year. For other developed countries, the average has been Y%
X=20
Y=24
Why does investment happen
- Replace worn out capital which has depreciated in value
- New technology that will make firms more efficient (however this is not always the case)
- Increases in aggregate demand that result in firms needing to increase capacity
- Change in interest rates and the number of loans available from banks (with an increase in demand, there is usually increasing investment too)
- Changes in profit made by business which can be re-invested
What are the 6 factors that will affect levels of investment
- the rate of economic growth
- business expectations and confidence
- Keynes and ‘animal spirits
- demand for exports
- interest rates
- access to credit
- the influence of government and regulations
How do interest rates affect the level of investment
If interest rates are low in the economy, it means that the cost of borrowing is low, hence a greater incentive to borrow money and invest.
Therefore, the marginal propensity to invest will increase with interest rates being lower.
Which are the two way, firms fund investment
borrowing money or by reinvesting retained profits.
What is the hurdle firms have when it comes to investment
How does this link to investment
is the required rate of return firms need for investment projects to go-ahead
It becomes easier if interest rates are lower, and increasing the marginal propensity to invest
How can business expectations and confidence affect rates of investment
Businesses have two main expectations: future profits and demand
If those expectations are high going forward, then businesses are more likely to reinvest.
The marginal propensity to invest will be greater, to meet the level of demand in the future
How does the level of corporate tax affect levels of investment
Retained profit, is the profit left after corporation tax has been paid
The lower the corporation tax, the higher the level of retained profit, the greater potential the businesses have to invest
How does the cost of capital affect the levels of investment
If the price of Capital is low, investment is less costly, and margin propensity to invest will increase, so investment will increase
How will having spare capacity affect the levels of investment
If a business has a high amount of spare capacity, there is no need to invest in capital machinery.
Supply can be increased using spare capacity
How will levels or competition affect the levels of investment
If competition is strong, and lots of competitions are improving their technology or spending more on capital machinery, increasing efficiency.
The likelihood is businesses will react to that and also invest
To get ahead of competitor, invest in capital, which is more efficient or new technology
What is animal spirit
refers to a mix of confidence, trust, mood, and expectations
When confidence is low, individuals save more, businesses save more too and, because demand and profits
are lower than expected
Therefore there is a cut back on production and perhaps postpone or cancel capital investment projects
What is the idea of Paradox of thrift
Higher saving and reduced investment both reduce demand and incomes, causing an economic contraction
It is a paradox because it makes sense for individual households to
increase savings if they are concerned about their future
the combined effect of rising savings is that less is spent in the economy, and therefore businesses will demand fewer workers
What is the short term impact on a PPF, on spending more on macro goods
What is the long term impact on a PPF, of spending more on macro goods
Short term: shift from a to b
Long term: Shift in the curve outward
On a micro level: investment in injection into the circular flow of income - component of AD, what is the problem with this
Some of the capital good may be imported - this is a leakage from the circular flow
On a macro level: new capital can aid productivity and create additional capacity to supply - what is the problem with this
Might be a long time lag between workers getting more capital and productivity rising
on a macro level: investment creates extra demand in investment good industries and can lead to a strong multiplier effect on the level of GDP - what can be the problem with this
Some capital investment replaces labour and therefore might cause some short term unemployment
On a macro level; investment will support a country’s competitiveness and therefore improve the trade balance in goods and services - what is the problem with this
many other factor affect competitiveness - including level of exchange rates
What is the accelerator effect
is a relationship between planned capital investment and the rate of change of national income
where a given change in demand for consumer goods and services will cause a bigger percentage change in demand for capital goods
Give examples of the accelerator effect
- Investment to create extra capacity in cloud computing storage services
- investment in 4G mobile networks to meet rising household and business demand
- Expanding fleet sizes in growing airlines
- Capital investment in renewable energy as the balance of energy supply shifts towards renewables
Describe the negative accelerator effect
When the growth of demand in an industry slows, net investment spending by businesses often falls.
Economic significance of infrastructure investments
Potentially high multiplier effects from multi-billion investment projects – increase AD and jobs
Lack of infrastructure may discourage FDI (foreign direct investment)
Increases the capital stock / productive potential
Allows sustainable growth
Examples of current and recent UK infrastructure projects
2nd Fourth Road bridge
Crossrail, Crossrail2, and HS3 (Leeds-manchester)
London Gateway port and new London super sewer
Nuclear power plants
