15.2 A Classical View of Types
15.2.7 The Central Theorem: Type Soundness
UNIT 3 THE INVESTMENT THEORY
public works like dams, roads, buildings etc, net foreign investment, inventories, and stocks and shares of new companies. In the words of
Joan Robinson, “By investment means an addition to capital, such as occurs when a new house is built or a new factory is built. Investment
means making an addition to the stock of goods in existence”.
3.2 Definition of Capital
Capital can be defined as a stock of man made resources yielding
services which are combined with labour to produce a flow of output. It is also includes any previously produced input that can be used in the production process to produce other goods. The choice of the size of
capital to hold is an intertemporal choice problem since it involves
comparing future benefits with present costs.
To be more precise, investment is the production or acquisition of real
capital assets during any period of time. Capital and investment are related to each other through net investment. Gross investment is the
total amount spent on new capital assets in a year. Net investment is gross investment minus depreciation and obsolescence changes (or replacement investment). This is the net addition to the existing capital
stock of the economy. If gross investment equals depreciation, net investment is zero and there is no addition to the economy’s capital stock. If gross investment is less than depreciation, there are disinvestments in the economy and the capital stock decreases. Thus for
an increase in the real capital stock of the economy, gross investment must exceed depreciation i.e. there should be net investment.
3.3 Types of Investment
3.3.1 Autonomous Investment
This is the type of investment that is not motivated by any type of
economic activity. It is independent of the level of income. It is
influenced by exogenous factors like innovations, inventions, growth of
population and labour force, researches, social and legal institutions, weather changes, war, revolution etc. But it is not influenced by
changes in demand, rather it influences demand. It remains constant no
matter the level of economic activity. This type of investment is
required when a businessman requires initial capital that does not
depend on the level of production. Investment in economic and social overheads whether made by the government or the private enterprise is autonomous. Such investment includes expenditure on building, dams, roads, canals, schools, hospitals etc. Since investment on these projects
is generally associated with public policy, autonomous investment is
regarded as public investment. In the long run, private investment of all types may be autonomous because it is influenced by exogenous factors.
3.3.2 Induced Investment
It is the type that is motivated by certain economic activities. Induced investment is profit or income motivated. Factors like prices, wages and
interest changes which affect profits, influence induced investment.
Similarly demand also influences it. When income increases, consumption demand also increases. In the ultimate analysis, induced investment is a function of income i.e.
I = f(Y)
It is income elastic, it increases or decreases with the rise or fall in income.
Induced investment may be further divided into two namely:
a. the average propensity to invest: is the ratio of investment to income i.e. I/Y
b. the marginal propensity to invest: is the ratio of change in investment to the .
Change in income i.e. dI dY .
4.0 CONCLUSION
It must be noted that the aggregate demand in a closed economy without
government is divided into consumption goods and capital goods.
Generally, demand for capital goods is called investment. Investment is
the addition to existing stock of capital and therefore it is a flow
concept. Capital refers to real assets like factories, plants, equipment and inventories of finished and semi-finished goods. The amount of capital available in an economy is the stock of capital. Thus capital is a
stock concept.
5.0 SUMMARY
In this unit, attempts have been made to define capital and investment
and differentiate between capital and investment. Attempts have also been made to discuss autonomous investment and induced investment.
6.0 TUTOR-MARKED ASSIGNMENT
1. Differentiate between capital and investment2. Explain the differences between autonomous investment and induced investment
7.0 REFERENCES/FURTHER READINGS
Jhingan, M.L. (2003). 11th ed. Macro-economic Theory. Vrinda Publications Limited.
Barro, Robert J. (1997). Determinants of Economic Growth: A Cross- Country Empirical Study. MIT Press: Cambridge, MA.
George Erber, Harald, Hagemann (2002). Growth, Structural Change,
and Employment, in: Frontiers of Economics, Ed. Klaus F.
Zimmermann, Springer-Verlag, Berlin – Heidelberg – New York, 269-310.
Foley, Duncan K. (1999). Growth and Distribution. Harvard University Press: Cambridge, MA.
Jones, Charles I. (2002). 2nd ed. Introduction to Economic Growth. W.
Norton & Company: New York, N.Y.