Income and Expenditure - Investment Spending - The Interest Rate and Investment Spending
4 important questions on Income and Expenditure - Investment Spending - The Interest Rate and Investment Spending
What is the relationship between planned investment and interest rate?
- The higher the interest rate the less firms are going to plan to invest so there will be a low level of planned investment.
- which means there is a negative relationship between interest rate and planned investment.
When is the onliy time firms will go ahead with investment spending to projects?
- If those projects will give them a higher rate of return than the cost of the funds they would need to borrow to finance that project.
- so when the interest rate rises, fewer projects will have a higher rate of return so the investment will decrease.
What is the profit received from previous investments? What is the opportunity cost of using that profit to finance other projects?
- Profits received from previous investments are called retained earnings.
- the opportunity cost of using retained earning, is the interest forgone from being able to lend the funds, and earning interest on them
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Is there a difference between borrowing for a new investment project and using previous retained earnings to fund a project?
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