Definition and measurementThe decision to invest
Investments and demand of goods and services
Macroeconomics - Licence 1 EconomieGestion
Chapter 3: Investment
Rémi Bazillier 1
1 [email protected]://remi.bazillier.free.fr
Université d’Orléans
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and services
Plan
1 Definition and measurementDefinition
2 The decision to investNet present value (NPV)Internal rate of returnInvestment function
3 Investments and demand of goods and servicesThe accelerator effectA formulation of the accelerator effectEmpirical validation of the accelerator effectA critical analysis of the accelerator effectExtensions of the accelerator effect
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and servicesDefinition
Definition
“Purchases of new houses and apartments by people, andpurchases of new capital goods (machines and plants) byfirms”.
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and servicesDefinition
Growth rate of investment and GDP in France
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and servicesDefinition
Investment rate
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and servicesDefinition
Investment by institutional sector
PercentageNon financial firms
and individual firms 52.4Households 27.7
Public administration 16.5Other sectors 3.4
Source: INSEE
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and servicesDefinition
Investment by sector
Sector PercentageAgriculture 2.7
Industry 15.1(including intermediate goods) (5.3)
Construction industry 1.6Services 66.1
(Including real estate) (32.7)Other 14.7
Source: INSEE
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and services
Net present value (NPV)Internal rate of returnInvestment function
The net present value (NPV)
DiscountingCapitalizationActuarial calculation
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and services
Net present value (NPV)Internal rate of returnInvestment function
Actuarial calculations
Sn = S0(1 + i)n (1)
↔ S0 =Sn
(1 + i)n (2)
Present value:
PV =n∑
t=1
Rt
(1 + i)t (3)
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and services
Net present value (NPV)Internal rate of returnInvestment function
Net present value
Internal financing: Investment if PV = P0 > C0
Debt financing: Investment if R1 > C0(1 + i)↔R1
(1+i) = PV = P0 > C0
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and services
Net present value (NPV)Internal rate of returnInvestment function
Internal rate of return
r= internal rate of return for which present value of netincomes = cost initial investmentInvestment if r ≥ i
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and services
Net present value (NPV)Internal rate of returnInvestment function
Investment function
Investment depends primarily on two factors:Level of sales - increase in sales→ increase production→may need to buy additional machines→ increaseinvestmentThe interest rate - If a firm needs to borrow to finance itsinvestment: the higher is the interest rate, the less attractiveis to borrow and thus invest
I = I(Y , i) (4)(+,−) (5)
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and services
The accelerator effectA formulation of the accelerator effectEmpirical validation of the accelerator effectA critical analysis of the accelerator effectExtensions of the accelerator effect
The accelerator effectThe accelerator effect refers to a positive effect on private fixedinvestment of the growth of the market economy. The growth ofprivate investment is higher than the growth of GDP.
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and services
The accelerator effectA formulation of the accelerator effectEmpirical validation of the accelerator effectA critical analysis of the accelerator effectExtensions of the accelerator effect
A formulation of the accelerator effect
It+1 = k(Dt+1 − Pt) + Ir ,t+1 (6)
with k the accelerator coefficient, Dt+1 the demand in t + 1, Ptthe production in t and Ir ,t+1 the replacement investment.
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and services
The accelerator effectA formulation of the accelerator effectEmpirical validation of the accelerator effectA critical analysis of the accelerator effectExtensions of the accelerator effect
Formulation of the accelerator effect
Source: Jalladeau, Joël (1993), Introduction à la macro-économie. Modélisation de base et redéploiements
théoriques contemporains, Bruxelles, De Boeck-Wesmael, p. 64Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and services
The accelerator effectA formulation of the accelerator effectEmpirical validation of the accelerator effectA critical analysis of the accelerator effectExtensions of the accelerator effect
Empirical validation of the accelerator effect
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and services
The accelerator effectA formulation of the accelerator effectEmpirical validation of the accelerator effectA critical analysis of the accelerator effectExtensions of the accelerator effect
A critical analysis of the accelerator effect
1 Two conditionsFull employment of capitalNo brutal changes in production techniques
2 Flexibility of capital adjustments?3 Rise and fall of consumption don’t have symmetric effects4 The accelerator effect is more complex:
Heterogeneous accelerator effect between sectorsInfluenced by prices evolutions
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and services
The accelerator effectA formulation of the accelerator effectEmpirical validation of the accelerator effectA critical analysis of the accelerator effectExtensions of the accelerator effect
Production capacity usage rate
Sources : Ifo, Insee et Commission européenne, calculs Insee
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and services
The accelerator effectA formulation of the accelerator effectEmpirical validation of the accelerator effectA critical analysis of the accelerator effectExtensions of the accelerator effect
Extensions
Acceleration effect and firms’ profitsAcceleration effect and businessmen’s expectationsThe flexible accelerator effect
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and services
The accelerator effectA formulation of the accelerator effectEmpirical validation of the accelerator effectA critical analysis of the accelerator effectExtensions of the accelerator effect
The accelerator effect and businessmen expectations
It+1 = k .α(Dt+1 − Pt) (7)
with α the expectation coefficient
Rémi Bazillier Chapter 3: Investment
Definition and measurementThe decision to invest
Investments and demand of goods and services
The accelerator effectA formulation of the accelerator effectEmpirical validation of the accelerator effectA critical analysis of the accelerator effectExtensions of the accelerator effect
The flexible accelerator effect
It+1 = βk(Dt+1 − Pt) + Ir ,t+1 (8)
with βk , the flexible accelerator coefficient
Rémi Bazillier Chapter 3: Investment
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