Question

spending multiplier effect will go up or down? down List the factors that determine the amount of investment spending by firms What kind of curves the followings are?

list the factors that determine the amount of investment spending by firms

Answer 1

Investment spending by individual firms are determined by a number of factors, some of which are:

(i) Interest rates

Since investments are financed either out of borrowings or savings, a higher interest rate makes it more expensive to borrow and also results in a higher opportunity cost for savings. Thus, the higher the interest rate, the lower the investments and vice versa.

(ii) Economic growth

The standard of living of an economy is determined by its economic growth. An increasing demand and greater economic growth makes the firm invest more as compared to falling demand. Similarly, firms tend to invest more in boom than in recessions.

(iii) Inflation rate

In the long-term, inflation has an effect on the investments of a firm. Higher and variable inflation tends to create more uncertainty in the future, resulting in uncertain and falling investments. This is because at higher inflation rates, firms will be uncertain at the final cost of the investment.

(iv) Productivity of capital

Long-term technological advancements lead to strong incentives to invest in new technology since it is much more efficient. Similarly, a slowdown in the rate of technological progress leads firms to cut back on investments due to lower rates of return on capital.