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econ 105 > Chapter 14: Investment > Flashcards

Chapter 14: Investment Flashcards

1
Q

what do macroeconomics mean when they refer to investments

A

refers to spending on capital (physical capital, intellectual property)

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2
Q

does buying shares or land count as investments?

A

no

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3
Q

what is capital stock

what adds to it, what subtracts from it

A

total quantity of capital at a point in time

investments add
depreciation subtracts

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4
Q

what are the three types of investments

describe them

A

business investment: spending by business on new capital assets

inventories: businesses invest my maintaining inventories, increase in inventory is counted as investment

housing: spending on building new houses as well as improvements to existing houses

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5
Q

what are three important facts to remember about investments

A

investment drives the business cycle

investment changes quickly but capital stock changes slowly

investment is a key driver of long-term prosperity

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6
Q

what are the two tools that can analyse how values change over time?

what do they calculate

A

compounding: calculate how much money grows over time when you leave it to accumulate interest

discounting: calculate how much future money is worth today by calculating how much you would need to put in today to grow it to that amount in the future

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7
Q

what is compounding formula

A

future value in t years = present value * (1 + r) ^t

r is the interest rate

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8
Q

what is the discounting formula

A

present value = future value in t year / (1+r)^t

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9
Q

true or false: you can use the compounding and discounting formulas to figure out how much either the nominals or real value of your money changes through time

if so, how:

A

true

if evaluating nominal value, use nominal interest rate in either equation

if evaluating real value, use real interest rate in either equation

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10
Q

when should you invest in new capital

A

invest in new capital if the present value of the benefits exceeds the present value of the costs

when
next years revenue / ( r + d ) > upfront costs

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11
Q

what is the valuation formula and what does it do

A

it calculates the present value of a stream of income

present value of a stream of payments = next year’s revenue / (r+d)

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12
Q

what is the formula for the user cost of capital?

A

Usercostofcapital=(r+d)×C

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13
Q

what does the user cost of capital represent

A

the cost of using an equipment for a year

it is the forgone interest plus deprpreciaion

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14
Q

using the user cost of capital formula, when should you invest in another piece of capital

A

when
next years revenue > (r+d)×C

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15
Q

true or false: the higher the real interest rate, the lower the present value of future revenues

A

true. higher interest rates will lead to lower levels of investments

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16
Q

what is the investment line

A

it illustrates how the quantity of investments rise as the real interest rate falls

it will be downward sloping because high real interest rates = low investments

low real interest rates = high investments

17
Q

the investment line an be shifted

what 4 key factors can cause the investment line to shift

A

technological advances: invest more, shift right

expectations: positive, invest more, shift right / negative invest less, shift left

corporate taxes:
high taxes, invest less, shift left / low taxes, invest more, shift right

lending standards and cash reserves:
if banks don’t want to lend, low investment, shift left / If banks are less restrictive, invest more, shift right

18
Q

in an investment line, a shift in which direction represents what

A

a shift to the right is an increase in investments

a shift to the left is a decrease in investments

19
Q

what is the market for loanable funds

A

it brings together savers who want to lend their funds and investors who want to borrow funds

the market determines the long-run real interest rate and therefore the quantity of investment

it is the relationship of supply and demand between real interest rate and quantity

20
Q

there can be shifts in the supply of loanable funds

what does a shift in each direction represent

A

decrease: left

increase: right,

21
Q

what are the 3 factors that will shift the supply loanable funds

A
  1. changes in personal saving rates (any factor that shifts people’s willingness to save)
  2. The budget surplus/deficit shifts government saving (increase in budget deficit will make gov’t saving more negative, shift left, increase in surplus will mean gov’t has more savings, shift right)
  3. global shocks shift foreign saving (funding that comes from foreigners lending money to Canadians)
22
Q

what is crowding out

A

a decline in private investment due to a larger budget deficient

23
Q

what are the 4 factors that shift the demand for loanable funds

A
  1. technological advances
  2. expectations
  3. corporate taxes
  4. lending standards and cash reserves
24
Q

recently there has been long term trends that have also led to a decrease in the demand for loanable funds, what are the 3

A
  1. population growth is slowing, new workers need less investments
  2. modern economy is increasingly powered by technology firms which don’t use much capital
  3. capital equipment becomes cheaper, businesses need fewer funds to meet their needs
25
Q

true or false: nominal interest rate has no effect on the supply and demand for loanable funds?

A

true

26
Q

what does the equilibrium in the market for loanable funds show

A

it determines the equilibrium real interest rate, it is the real interest rate that applies on average over the long run, aka. neutral real interest rate

27
Q

nominal interest rate:
real interest rate:

how are they expressed, remember the distinction

A

nominal is expressed in dollars
real is expressed in purchasing power

28
Q

what is the internal rate of return (IRR)

A

the IRR is the interest rate at which the present value of future payments would be exactly equal to the initial investment

you should invest so long as IRR exceeds interest rate

econ 105 (7 decks)

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