Interest Rates and Investment Demand

Interest Rates and Investment Demand

2-21-17

Investment: What we want to spend $ on

• Money spent on:
1. New Plants (factories)
2. Capital equipment (machinery)
3. Technology (hardware / software)
4. New homes
5. Inventories (goods sold by producers)

Expected Rates of Return

• Business makes investment sections with cost/benefit analysis.
• Business determine the benefits with expected rate of return
• Business counts the cost with interest costs.
• Business determines amount of investment they undertake by:
• Comparing expected rate of return to interest cost.
• If expected return is > interest cost, then invest
• If <, don't invest

Real (r%) and Nominal (i%)

• Formula : r% = i% - Inflation
• Nominal is observable rate of interest. Reseal subtracts out inflation and is ex post facto.
• Real interest rate determines cost of investment decision
• Investment Demand Curve (ID) is downward sloping
• Shifts in ID
• Cost of production
• Technology change
• Business taxes
• Stock of capital
• Expectations