1. MACROECONOMICS AND THE GLOBAL BUSINESS ENVIRONMENT
11/27/2018
MACROECONOMICS AND THE GLOBAL BUSINESS ENVIRONMENT
2nd edition
Investment
PowerPoint by Beth Ingram
University of Iowa
Copyright © 2005 John Wiley & Sons, Inc. All rights reserved.

2. Key Concepts Volatility of investment Role of Savings Cost of Capital
Explanations for investment behavior
q-theory
Tax wedges

3. 1987
Consumption
Investment
Government Spending
2000
Source: NIPA

4. Investment as Proportion of GDP

5. Investment as Proportion of GDP

6. German Investment and GDP Growth over the Cycle
Real GDP

7. Investment, Savings and the Interest Rate
Recall ideas from Chapter 4
Savings
Private
Public

8. Review (Ch. 4)  Capital means  MPk Marginal Product of Capital  R
Output
 Capital means  MPk
Capital Stock
Marginal Product of Capital  R
R means  MPk means  Capital
(i.e., at lower interest rate can afford to have higher capital stock)

9. Determination of Investment
Cost and Marginal Return
Cost of Capital
Marginal Product of Capital K0
Capital Stock

10. Cost of capital falls Investment Rises Cost and Marginal Return
Marginal Product of Capital K0 K1
Capital Stock
Investment Rises

11. Cost of capital rises Investment Falls Cost and Marginal Return
Marginal Product of Capital K1 K0
Capital Stock
Investment Falls

12. Increase in MPK Cost and Marginal Return Cost of Capital
Marginal Product of Capital K0 K1
Capital Stock

13. Cost of Capital Cost of using funds Changes in value of capital
Interest rate
Risk
Changes in value of capital
Depreciation
Change in resale price

14. Investment 6%
Interest Rate 5%
Investment 8%
10%
Percentage of Income

15. Savings 6% Interest Rate 5% 10% 12% Percentage of Income Savings
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Savings
Savings 6%
Interest Rate 5%
The following model isn’t in the book explicitly, but I like to present it because it gives students a framework in which to think about the relationship between investment and savings. It makes use of groundwork laid elsewhere.
10%
12%
Percentage of Income

16. So how is the interest rate determined?
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So how is the interest rate determined?
What factors influence the “r”?
Time period
Risk
Type of capital
Type of financing – argue that interest rate is good proxy
Tax issues

17. In equilibrium… Savings 6% Interest Rate 5% Investment 5% 10% 12%
Percentage of Income

18. In equilibrium… Savings Interest Rate 5% 4% Investment 10% 14%
Percentage of Income

19. Suppose increase in TFP
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Suppose increase in TFP r
Savings 6% 5%
Investment
What else increases investment demand? Must increase the MP of capital
Tax incentives
Increase in quantity of labor
Shift in goods towards capital-intensive production
10%
12%
Percentage of Income

20. Japan
In 1998, Japanese households increased the share of their incomes that they put into savings from an average rate of 12% in to 15-16%. They have begun to save a little less; the rate dropped below 15% in 1999.

21. Suppose declining savings
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Suppose declining savings
Savings
5.5%
Interest Rate 5%
Investment
What shifts the savings supply curve? Must change consumption today relative to consumption tomorrow.
Changes in current income (more current income means more savings)
Changes in future income (less future income means more savings)
Tax effects 8%
10%
Percentage of Income

22. q theory of investment q = Stock Valuation Replacement Cost
Value of company on the stock market
Replacement cost of company capital
Stock Valuation
q =
Replacement Cost

23. What does it say? Stock Valuation > Replacement Cost
Increase Investment
Stock Valuation < Replacement Cost
Decrease Investment

24. Cash Flow and Investment
Cash Flow story
Investment is determined by current profits
High current profits mean high investment
Implications for optimal investment

26. Lumpy Investment
Investment spending tends to be concentrated in a relatively small span of time at the firm level
In aggregate, tends to coincide with the cycle
Two views
Keynes: waves of optimism and pessimism
Real Business Cycle: optimal response to technological shifts

27. Foreign Direct Investment (FDI)
Flows of capital between countries
Increasing importance in world investment
Generated by cross-country differences in
Marginal Product of Capital
Cost of Capital

28. Tax wedges on machinery investment, 1996

29. Tax wedge on inventory investment, 1996

30. Tax wedge on building investment, 1996

31. Intangibles Assets that do not have a physical representation
Brands
Copyrights
Technological know-how
Valuable to firm, hard to measure
One measure: difference between market value of assets and cost of physical assets
Relationship to Tobin’s q

32. Summary Role and characteristics of investment Cost of capital and MPK
Volatile
Pro-cyclical
Cost of capital and MPK
Tobin’s q
FDI
Copyright © 2005 John Wiley & Sons, Inc. All rights reserved. Reproduction or translation of this work beyond that permitted in Section 117 of the 1976 United States Copyright Act without the express written permission of the copyright owner is unlawful. Request for further information should be addressed to the Permissions Department, John Wiley & Sons, Inc. The purchaser may make back-up copies for his/her own use only and not for distribution or resale. The Publisher assumes no responsibility for errors, omissions, or damages caused by the use of these programs or from the use of the information contained therein.