What is Investment?
- money spent of expenditures on:
- new plants (factories)
- 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 business determine the benefits?
- expected rate of return
- How does business count the cost?
- interest cost
- 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, then do not invest
Real (r%) v. Nominal (i%)
- What determines the cost of an investment decision?
- the real interest rate (r%)
Investment Demand Curve
- shape
- downward sloping
- Why?
- when interest rates are high, fewer investments are profitable; when interest rates are low, more investments are profitable
- conversely, there are few investments that yield high rates of return, and many that yield low rates of return
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