Page 120 - DECO201_MACRO_ECONOMICS_ENGLISH

Unit 6: Investment

6.3 Induced Investment and the Accelerator Notes

Clark pointed out income as a major determinant of investment and developed the accelerator
theory of investment. According to this theory, the level of new investment is determined not
only by level of output or GNP but by rate of change of national income. It is based on the fact
that the capital stock of a nation is considerably greater than its GNP. The theory makes the
following prediction.
"Small changes in the level of national income or output will lead to much greater (accelerated)
changes in the demand for capital goods."
Figure 6.7 explains how GNP and level of investment depend on rate of change of GNP.
When GNP is rising rapidly then investment will be at a high level, as business people are eager
to add to their capacity. However, as the rate of growth slows down, business people will no
longer add as rapidly to capacity, and investment will fall to replacement level. That is, gross
investment to the extent of depreciation will take place but net investment to the stock of capital
will be 0.
Figure 6.7

Investment is thus, in part, a function of changes in the level of income: I = f( Y). This type of
investment is known as induced investment and is different from autonomous investment of
the Keynesian type. A small change in output or sales may thus provide the necessary inducement
for investment. From this idea we may develop a new concept, viz., the marginal propensity to

invest (MPI). This is expressed as MPI = .

In Figure 6.8 the line IP is the line of induced investment. When national income increases by Y,
investment increases by I . The slope of the line of investment is MPI. Thus like consumption,
P
investment is also a function of national income and changes with it. So total investment has two
components – autonomous and induced. Or, symbolically: I = I + I . Where I is total investment,
s p
I is autonomous and I is induced private investment.
s p

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