Investment and AD Flashcards
(13 cards)
How does investment affect Aggregate Demand (AD)?
Investment (I) is a component of AD. When firms invest in capital goods, AD increases: AD = C + I + G + (X – M).
What is investment in macroeconomics?
Investment is when firms spend on capital goods (e.g., machinery, tools) to increase their future productive capacity.
How do interest rates affect investment?
Low interest rates reduce the cost of borrowing, increasing the incentive to invest. High rates have the opposite effect, reducing investment and AD.
What is the Marginal Propensity to Invest (MPI)?
MPI is the proportion of extra income/profit that firms choose to invest. It rises when interest rates are low or when confidence is high.
How does business confidence influence investment?
High business confidence (due to expected profit or future demand) raises investment, boosting AD. Low confidence does the opposite.
How do expectations of future demand affect investment?
If firms expect high future demand, they are more likely to invest now to meet that demand later.
What is retained profit and how does it affect investment?
Retained profit is what remains after paying corporation tax. Firms can use it to finance investment. Higher retained profits = more potential investment.
How does corporation tax affect investment?
Higher corporation tax reduces retained profit, lowering the funds available for investment and decreasing AD.
How does corporation tax affect retained profit and investment?
Lower corporation tax increases retained profit, allowing more funds for investment. Higher tax reduces retained profit and lowers investment.
What is the role of spare capacity in investment decisions?
When firms have high spare capacity, there’s less need to invest. When operating near full capacity, there’s a strong incentive to invest to expand.
How does the level of competition affect investment?
Intense competition drives firms to invest more in capital, technology, and innovation to stay competitive.
How does the price of capital affect investment?
When capital goods are cheaper, investment becomes more affordable, increasing the marginal propensity to invest.
What is the accelerator effect in economics?
The accelerator effect is when rising real GDP growth encourages firms to invest more to meet future demand, which further boosts GDP growth.
