Investment Decisions

Question 1

Marginal Product of Capital (MPK)

Answer 1

MPKf: Future benefit of additional capital.

In simpler terms, it measures how much extra production a firm or economy can achieve by increasing its capital stock (e.g., machinery, equipment, or infrastructure) by one unit.

Question 2

User Cost of Capital

Answer 2

User Cost= (r + d) x p_k

Where:
• r : Real interest rate (cost of financing the capital or opportunity cost of using savings).
• d : Depreciation rate (loss in value of the capital due to wear and tear).
• p_k : Price of the capital good (e.g., cost of the machine).

Each component has a unique impact:
1. Real Interest Rate ( r ):
• If r increases, borrowing becomes more expensive, raising the cost of investment.
2. Depreciation Rate ( d ):
• Higher depreciation rates mean faster loss in value, making investment less attractive.
3. Price of Capital ( p_k ):
• A rise in the price of machines or equipment increases costs, discouraging investment.