In: Economics
One the basis of what you have studied so far, how would you distinguish the neoclassical investment function [Investment = f(cost of borrowed funds)] from that of Keynes [Investment = f(expected profit rate - the cost of borrowed funds)]? In other words, why would Say’s law which is a key feature of neoclassical macroeconomics, not work if the investment is a function of expected profits?
• Neoclassical investment characteristic states that how plenty capital inventory a firm wishes to acquire at a precise time. This characteristic is determined by way of the velocity with which the firms alter their capital stocks toward the preferred degree. In accordance to this neoclassical principle funding, that is, addition to the inventory of capital in a financial system is decided by means of marginal product of capital MPK and consumer fee of capital which is additionally called actual rental cost of capital. Marginal product of capital MPK measures the addition to the production by using an additional unit of capital labor and technology ultimate constant.
• Whereas, classical idea of Keynes of funding function has main three determinants i.e. price return and expectations. According to this function, the marginal efficiency of capital is compared with real price of interest. If MEC> r, then the investment will be higher. And if more and more capital is brought the diminishing stage get starts and MEC starts falling. MEC= r means that no additional investment. The MEC is the fee of bargain which equates the current value of a collection of cash flows obtainable from an income-earning asset like a computer over its entire economic lifestyles to the price of the machine.
• According to say’s law of markets or say’s law, each and every supply creates its own demand. That is, if a commodity is produced, it will generate enough element earnings for the proprietors of land, labor and capital to purchase the produced commodity. After all the charge of the commodity may additionally be divided into its thing parts of hire wages and earnings. Therefore, these incomes will be ample to realize the fee of the commodity. The implication of this easy argument at the stage of the aggregate financial system is that ample earnings will always exist to purchase the complete output of commodities.