Investment theory
Definitions: investment is the purchase of a financial product or other item of value with an expectation of favorable future returns.
Investment is an expenditure on new plant and equipment as well as the change in inventories or stock.
Autonomous investment ( I0 )
· Autonomous investment is a type of investment where it does not depend on the level of national income; it depends upon others factors. An example of autonomous investment is an expenditure on national security. Even though the level of income increase or decrease, autonomous investment remains the same.
Determinants of investment:
a. Interest rate
The high interest rate causes the more expensive will it be for firms to finance investment, hence the less profitable will the investment be.
b. Increased in consumer demand
When national income increase, the demand for goods or services will also increase; the producer will produce more goods and services by installing more machinery and expand their plant size (investments will increase).
c. The cost and efficiency of capital equipment.
If the cost of capital equipment goes down or machines become more efficient, the return on investment will increase. Firms will invest more. Technological progress is an important determinant here.
d. Expectations
Since investment is made in order to produce output for the future, investment must depend on firms’ expectation about future market conditions. Example; if the expected future dividend for ASB will increase, so investor in ASB will increase their investment by today. It because to get more profit at the future.
e. Business taxes.
An increase in business taxes will lower the profitability therefore investment will decrease.
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