Intermediate Macroeconomics
Lecture 18
Investment
? Business fixed investment
Equipment and structures that businesses buy to use in
production
? Residential investment
New housing that people buy to live in and that landlords
buy to rent out
? Inventory investment
Goods that business put aside in storage,including
materials and supplies,work in process,and finished
goods
Investment
Component of I (3Q,2004,US)
nonresidential I in structures
nonresidential I in equipment and software
residential I
change in inventories
Investment
Component of I (China,2001)
建筑安装工程 设备工具器具购置
其他费用 存货投资变动
Business Fixed Investment
?Neoclassical model of investment
? I,MPK,i-rate,tax rules
? Production firms & rental firms
Business Fixed Investment
? The rental price of K (production firms)
MC=MB
MB,how many products 1 unit K generates --- MPK
MC,how many products 1 unit K costs --- (R/P)
MPK=R/P
Business Fixed Investment
?Assumption,MPK↓ as K ↑
R/P
K
K supply
MPK
Business Fixed Investment
? Cobb-Douglas production function
?? ?? 1LAKY
?
?? ??
?
?? ?
?
??
?
??????
1
11
K
LALAKM P K
Business Fixed Investment
? The cost of K (rental firms)
You purchased a car for RMB150,000 and
start up your car-rental business,1 yr later,the
same car is sold at RMB100,000,The
depreciation rate for the car in the 1st yr is
30%,The market i-rate is 2%,
What is the cost of your business this yr?
Business Fixed Investment
1,Interest cost ---
2,Change in P of K ---
3,Depreciation ---
Cost of K,
KPi?
KP? KKK PPPi ????? ?
)()( ??? ??????????? rP
P
PiPPPPi
K
K
K
KKKK
KP??
Business Fixed Investment
? The determinants of investment (rental firms)
Profit rate = revenue – cost
)( ???? rPPPR K
)( ???? rPPM P K K
)(:' ??? rPPM P Kmeq K
Business Fixed Investment
r
I
()Kn e t PI I M P K r KP ????? ? ? ? ?????
Business Fixed Investment
? Tax and investment
? Corporate income tax (tax on profits)
--- definition of,profit”
--- current/historic value for depreciation
? The investment tax credit
--- reduces firm’s tax by a certain amount for each $
spent on capital goods
Business Fixed Investment
企业所得税,
?金融保险企业 5%
?内地 33%
?沿边沿疆沿海 24%
?特区 15%
?西部地区 15%
?外资企业减半（不足 10%按 10%征收）
Business Fixed Investment
?国务院批准的高新技术产业开发区,15%
?第三产业企业：一定期限内减免
?利用废弃物为主要原料的：五年内减免
?“老、少、边、穷”地区新办企业：三年内
减免
?技术转让，自然灾害，安置就业，校办工厂，
福利生产企业 ……
（增值税）
Business Fixed Investment
? Tobin’s q --- Investment decision
q = market value of installed K/replacement cost of
installed K
q>1,buy more capital as K wears out
q<1,no replacement as K wears out
A firm’s stock market value equals its intrinsic value
Business Fixed Investment
? Stock market as an economic indicator
① Stock P↓? Tobin’s q ↓? I ↓? AD ↓
(investors are pessimistic about the profitability of K)
② Stock P↓? wealth of people ↓? C ↓
③ Stock P ↓ may reflect bad news about
technological and LR economic growth
,The stock market has predicted nice out of the last five
recessions” --- Paul Samuelson
Business Fixed Investment
?Financing constraints
Problems in the banking system have often
coincide with downturns in economic activity
Residential Investment
?The stock eq’m & the flow supply
existing stock of houses ? eq’m housing P
Housing P ? flow of residential investment
Residential Investment
Stock of housing K
Relative p
of housing
S
D
Relative p
of housing
Flow of residential I
S
Residential Investment
? 30yr mortgage,50,000
(monthly payment <=28% of income)
APR (%) Monthly Payment Total Interest
5 2,684.11 466,27960
6 2,997.75 579,190.00
7 3,326.51 697,543.60
8 3,668.82 820,775.20
Residential Investment
?Tax --- mortgage interest is deductible
Payment to principal i payment
1 600.78 2,083.33
2 603.28 2,080.83
3 605.79 2,078.32
4 608.32 2,075.79
5 610.85 2,073.26
6 613.40 2,070.71
Inventory Investment
?The goods that businesses put aside in
storage (negligible & of great significance)
--- too small a part in GDP
--- volatility is central to economic fluctuations
Inventory Investment
-5
0
5
10
15
20
25
30
%
1981 1984 1987 1990 1993 1996 1999
Year
Inventory I/GDP (China)
Inventory I
Inventory Investment
? Reasons for holding inventories
① Production smoothing
② Inventories as a factor of production
③ Stock-out avoidance
④ Work in process
Inventory Investment
? The accelerator model of investment
Assumption,firms hold a stock of inventories that is
proportional to the firms’ level of output
YN ?? ?
YNI ????? ?
Inventory Investment
?Inventories & r
r↑? opportunity cost for holding inventory ↑
? stock of inventories↓
Summary
? All types of I are inversely related to r
? There are various causes of shifts in I function
--- technology change
--- population
--- economic policies
? I is volatile over the business cycle
Lecture 18
Investment
? Business fixed investment
Equipment and structures that businesses buy to use in
production
? Residential investment
New housing that people buy to live in and that landlords
buy to rent out
? Inventory investment
Goods that business put aside in storage,including
materials and supplies,work in process,and finished
goods
Investment
Component of I (3Q,2004,US)
nonresidential I in structures
nonresidential I in equipment and software
residential I
change in inventories
Investment
Component of I (China,2001)
建筑安装工程 设备工具器具购置
其他费用 存货投资变动
Business Fixed Investment
?Neoclassical model of investment
? I,MPK,i-rate,tax rules
? Production firms & rental firms
Business Fixed Investment
? The rental price of K (production firms)
MC=MB
MB,how many products 1 unit K generates --- MPK
MC,how many products 1 unit K costs --- (R/P)
MPK=R/P
Business Fixed Investment
?Assumption,MPK↓ as K ↑
R/P
K
K supply
MPK
Business Fixed Investment
? Cobb-Douglas production function
?? ?? 1LAKY
?
?? ??
?
?? ?
?
??
?
??????
1
11
K
LALAKM P K
Business Fixed Investment
? The cost of K (rental firms)
You purchased a car for RMB150,000 and
start up your car-rental business,1 yr later,the
same car is sold at RMB100,000,The
depreciation rate for the car in the 1st yr is
30%,The market i-rate is 2%,
What is the cost of your business this yr?
Business Fixed Investment
1,Interest cost ---
2,Change in P of K ---
3,Depreciation ---
Cost of K,
KPi?
KP? KKK PPPi ????? ?
)()( ??? ??????????? rP
P
PiPPPPi
K
K
K
KKKK
KP??
Business Fixed Investment
? The determinants of investment (rental firms)
Profit rate = revenue – cost
)( ???? rPPPR K
)( ???? rPPM P K K
)(:' ??? rPPM P Kmeq K
Business Fixed Investment
r
I
()Kn e t PI I M P K r KP ????? ? ? ? ?????
Business Fixed Investment
? Tax and investment
? Corporate income tax (tax on profits)
--- definition of,profit”
--- current/historic value for depreciation
? The investment tax credit
--- reduces firm’s tax by a certain amount for each $
spent on capital goods
Business Fixed Investment
企业所得税,
?金融保险企业 5%
?内地 33%
?沿边沿疆沿海 24%
?特区 15%
?西部地区 15%
?外资企业减半（不足 10%按 10%征收）
Business Fixed Investment
?国务院批准的高新技术产业开发区,15%
?第三产业企业：一定期限内减免
?利用废弃物为主要原料的：五年内减免
?“老、少、边、穷”地区新办企业：三年内
减免
?技术转让，自然灾害，安置就业，校办工厂，
福利生产企业 ……
（增值税）
Business Fixed Investment
? Tobin’s q --- Investment decision
q = market value of installed K/replacement cost of
installed K
q>1,buy more capital as K wears out
q<1,no replacement as K wears out
A firm’s stock market value equals its intrinsic value
Business Fixed Investment
? Stock market as an economic indicator
① Stock P↓? Tobin’s q ↓? I ↓? AD ↓
(investors are pessimistic about the profitability of K)
② Stock P↓? wealth of people ↓? C ↓
③ Stock P ↓ may reflect bad news about
technological and LR economic growth
,The stock market has predicted nice out of the last five
recessions” --- Paul Samuelson
Business Fixed Investment
?Financing constraints
Problems in the banking system have often
coincide with downturns in economic activity
Residential Investment
?The stock eq’m & the flow supply
existing stock of houses ? eq’m housing P
Housing P ? flow of residential investment
Residential Investment
Stock of housing K
Relative p
of housing
S
D
Relative p
of housing
Flow of residential I
S
Residential Investment
? 30yr mortgage,50,000
(monthly payment <=28% of income)
APR (%) Monthly Payment Total Interest
5 2,684.11 466,27960
6 2,997.75 579,190.00
7 3,326.51 697,543.60
8 3,668.82 820,775.20
Residential Investment
?Tax --- mortgage interest is deductible
Payment to principal i payment
1 600.78 2,083.33
2 603.28 2,080.83
3 605.79 2,078.32
4 608.32 2,075.79
5 610.85 2,073.26
6 613.40 2,070.71
Inventory Investment
?The goods that businesses put aside in
storage (negligible & of great significance)
--- too small a part in GDP
--- volatility is central to economic fluctuations
Inventory Investment
-5
0
5
10
15
20
25
30
%
1981 1984 1987 1990 1993 1996 1999
Year
Inventory I/GDP (China)
Inventory I
Inventory Investment
? Reasons for holding inventories
① Production smoothing
② Inventories as a factor of production
③ Stock-out avoidance
④ Work in process
Inventory Investment
? The accelerator model of investment
Assumption,firms hold a stock of inventories that is
proportional to the firms’ level of output
YN ?? ?
YNI ????? ?
Inventory Investment
?Inventories & r
r↑? opportunity cost for holding inventory ↑
? stock of inventories↓
Summary
? All types of I are inversely related to r
? There are various causes of shifts in I function
--- technology change
--- population
--- economic policies
? I is volatile over the business cycle
