Investment To increase the capital stock of the economy.

Investment comes in two forms  Businesses and government can invest in physical capital and human capital.

 The University of Sheffield Advanced Manufacturing Research Centre with Boeing has secured funding for a new £43 million state-of-the-art research factory.

 Google’s new HQ in California.

 iPhone Maker Foxconn Plans To Invest $30 Million In New U.S. Plant.

Factors affecting investment  Interest rates

Interest rates  This is called the Marginal Efficiency of Capital Theory – when interest rates are low, investment across the economy will be high.

Low interest rates – high investment  The opportunity cost of investing in a new hotel, for example, will be smaller – as leaving the money in the bank will generate very little interest. Also borrowing money will be cheaper. Also, businesses know that their customers will be able to borrow more easily and will therefore seek to invest to meet that demand.

UK interest rates

UK interest rates – a broader picture.

Factors other than interest rates….  Business confidence.

UK Business Confidence

Business Confidence  The Business Confidence Index is an indicator designed to measure the degree of optimism on the state of the economy that business owners are expressing through their activities of investing and spending.

Business owners are asked questions such as…  1. On a scale of 1 to 10, how confident are you that you will see a rise in profitability over the next twelve months.  10 is extremely confident.  0 is not conifdent at all

 Business owners are asked similar questions about revenue, employment numbers and costs. The answers are compiled together

 When business confidence is measured on a scale between 0 and 100, an index level below 50 means that business owners expecting their company’s performance to be weaker in the next year outnumber those expecting stronger performance.

 In 2009 Business confidence was low, but so were interest rates. Would that have resulted in an increase or a decrease in investment?

Factors other than interest rates…  Level of retained profits.  A compnay may not have to borrow money to re-invest. They may use their profits. However, if the profits are paid to shareholders in dividends – then there’s not much left for investment. So, high levels of retained profits will give a firm greater scope for more investment.

One final factor  Even apart from the instability due to speculation, there is the instability due to the characteristic of human nature that a large proportion of our positive activities depend on spontaneous optimism rather than mathematical expectations, whether moral or hedonistic or economic. Most, probably, of our decisions to do something positive, the full consequences of which will be drawn out over many days to come, can only be taken as the result of animal spirits – a spontaneous urge to action rather than inaction, and not as the outcome of a weighted average of quantitative benefits multiplied by quantitative probabilities.

One final factor….  Animal spirits: Basically, investment is a much more random. The urge to invest or not invest cannot depend on mathematical expectations.

Who came up with the idea of animal spirits?  John Maynard Keynes

To invest or not invest.  Your firm: Penelope Hotels.  2012 profit: $2m (2% increase on 2011)  No dividends have been paid to shareholders since 2009.

Macroeconomy  Real GDP growth: 0%  Inflation:1.7%  Exports have grown by 10% in 2012  Business confidence rose 3% since 2011 – but from a very low base.  Unemployment:11%  Corporation tax12.5% this tax can be avoided if reinvested in an employment creating initiative.

Interest rates  Bank base rate 0.5%  Savings rate: 0% in regular savings account  Savings rate: 2% if money is not touched for 2 years.  Borrowing rate: 5%

Proposal  Use $2m of 2012 profits plus $2m of borrowed money to open a new 80 bedroom 4 star hotel and health spa.