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Macroeconomic Analysis 2003PowerPoint Presentation

Macroeconomic Analysis 2003

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Contents

- Why investment is so volatile?
- Investment Decision: Present value and Cost
- Marginal productivity theory of investment
- A Numerical Example of Investment Problem
- Investment tax credit and optimal capital stock
- Problem of Manufacturing sector in UK
- Long term yield and investment
- Multiplier-Accelerator theory of Investment
- Marginal productivity, Cost of Capital and Tobin’s Q
- Exercises

Lecture 13

Financing of an Investment Project

Need for Capital

Demand

for output

Financing an

Investment

Project

Self

Finance

Bequests

Bonds:

Debt Finance

Banks, Building

Society, Insurance

Equity Finance

Stock Market

(LSE)

Maturity

Instalment

Method

Repayment

Method

No

Risk

Risk

High

Risk

Lecture 13

Impact of Increase in the Interest rate on

the Optimal Capital Stock for a Firm

MPKb

Ra = (r2+)K

Rb = (r1+)K

MPKa

Output

&

Cost

Y = f(K)

Yb

r2 > r1

Ya

Ka

Kb

Capital

Lecture 13

Role of Investment Tax Credit in Promoting Investment

Why Manufacturers Lobby for a Tax Credit?

MPK

0

K1

K2

Lecture 13

Optimal Capital Stock for the Car Company

Lecture 13

Input Prices are Volatile Because of the Volatility of Oil Prices

Lecture 13

Investment is sensitive to the Long-term Yield than to Short Term Returns

Lecture 13

Multiplier Accelerator Theory of Investment Term Returns

Lecture 13

Essence of the Multiplier-Accelerator Theory of Investment Term Returns

- Change in demand requires change in Capital stock
- New Investment meets this requirement
- Investment has multiplier effect on income
- There is more demand
- More demand for capital stock
- More investment and more output
- This process continues, until the economy reaches turning point
- There is a similar downward movement in output, investment and capital stock in the recessionary period.

Lecture 13

Tobin’s q-theory and Investment Term Returns

Lecture 13

Exercises Term Returns

- Optimal investment with a given production function and user cost of capital
- Impact of investment tax credit
- Whether to take or not take an investment project with a stream of projected revenues and certain cost
- How to deal with uncertainties?

Lecture 13

Link Between Financial System and the Economy Term Returns

Y= F(K,L)

C

T

S

Funds

K

FA

Deposit

Banks

Pension Funds

Treasury

Bonds

Profit

Equity

Lecture 13

Three Sources of Financing an Investment Project Term Returns

- Self-financing
- Depends on retained earning
- Personal savings

- Bonds
- Banks, Building Societies and Trusts
- Various maturities and risks

- Stocks
- Market signals and equity prices

Lecture 13

Savers Term Returns

Households, Corporations and Government

S =100

Transaction Charges

(1-θ)S=0.05*100 = 5

Intermediaries

Banks, Insurance Companies, Building Societies, Trusts, Stock and Bonk Markets

Investors

Small, Medium and Large

Private, Public, Domestic and Foreign

θS=I =95

Lecture 13

Lecture 13 Term Returns

Investment Income Distribution and Factor Substitution Term Returns

Lecture 13