2.2.3 Investment

• Investment


  The addition of capital stock to the economy i.e. machines and factories used to produce other goods and services
• Investment is only seen as investment if real products are created, so buying a share in a company would be saving but buying new machinery is investment
• Gross investment


  The amount of investment carried out and ignores the level of depreciation
• Net investment


  Gross investment minus the value of depreciation
• In the UK, depreciation accounts for about 75% of gross investment
• Influences on investment


  • Rate of economic growth
  • Business expectations and confidence
  • Demand for exports
  • Interest rates
  • Influence of government and regulations
  • Access to credit
  • Retained profit
  • Technological change
  • Costs
• Rate of economic growth

  In a growing economy, there will be higher levels of investment as businesses would be more confident about their investments and the higher demand would lead to a higher return rate on the investment
• Business expectations and confidence

  When businesses are confident about the future and expect future growth, investment will increase as they want to prepare for the future. If they are fearful of the future, then they will not invest money in new ideas or machinery
• Keynes' 'animal spirits'


  The feeling of managers and owners of firms on whether their investment would be profitable. It is difficult to measure
• Demand for exports


  If the world economy is booming, demand for exports is likely to increase and therefore exporting firms' investment is likely to increase to cope with this extra demand
• Interest rates


  High interest rates mean that borrowing is more expensive, so a business needs to be more confident of good profits in order to cover the extra costs of borrowing. Higher interest rates also increase the opportunity cost of using retained profits for investment
• Keynes' Marginal Efficiency of Capital (MEC) graph

  Shows how higher interest rates will lead to a fall in investment
• Influence of government and regulations

  Governments can encourage investment through tax breaks, grants, or discourage it through excessive regulations
• Access to credit


  Investment will be lower when an investment has a high risk attached to it, as it means there will be less access to credit and interest rates will be higher
• Retained profit


  Profits kept by a firm and not shared with shareholders or used to pay taxes. Firms with higher retained profits are more likely to invest
• Technological change


  Improvements in technology will improve or speed up production which will increase the level of profitability, meaning the investment has a better prospect of success
• Costs


  A rise in the cost of any capital project increases the level of risk and leads to lower levels of investment. Rises in the costs of making goods will also decrease investment as it will reduce profitability
• Gross investment


  The amount that a firm invests in business assets that does not account for depreciations
• Net investment


  The actual addition to the capital stock of an economy, after depreciations have been considered. Net investment = gross investment - depreciation
• Influences on investment


  • Rate of economic growth
  • Business expectations and confidence
  • Demand for exports
  • Interest rates
  • Access to credit
  • The influence of government and regulations
• Investment in Aggregate Demand

  Investment plays a crucial role in determining aggregate demand, which represents the total level of goods and services demanded in an economy over a specific period
• Investment is one of the components of aggregate demand, along with consumption, government spending, and net exports
• Investment represents the spending by businesses on capital goods (such as machinery, equipment, and buildings) and residential structures (such as houses and apartments)
• Investment is a key driver of economic growth and can have significant impacts on overall economic activity