Unit 3; Day 3- Investment

Investment- money spent or expenditures on:
New plants(factory)
Capital Equipment(Machinery)
Technology(hardware/software)
New Homes
Inventories(goods sold by producers)

Expected Rates of Return-
How does business make investment decisions? Cost/ Benefit Analysis
How does a business determine benefit? Expected rate of return
How does business count cost? Interest Costs
How does business determine the amount of investment they undertake? Compare expected rate of return to interest cost.
If expected return> interest cost, then invest
If expected return< interest cost, do not invest

Real(r%) vs. Nominal(i%)
What’s the difference?
Nominal is the observable rate of interest.
Real subtracts out inflation(pi%) and is only known ex post facto.

How do you compute the real interest rate(r%)?
r%-i%-pi%

What then, determines the cost of an investment decision?
The real interest rate(r%)
~
Investment demand curve- Downward sloping.
Why? When interest rates are high, fewer investments are profitable; when interest rates are low, more investments are profitable.

Shifts in Investment Demand
Cost of production
Lower costs shift ID>
Higher costs shift ID<
Business taxes
Lower taxes ID>
Higher taxes ID<
Technological Change
New tech ID>
Lack of tech ID<
Stock of Capital
Low capital ID>
High Capital ID<
Expectations
Positive expect. ID>
Negative Expect ID<

Investment Demand Video!