Page 92 - DECO402_Macro Economics

Unit-10: Investment Function

It is clear from above description that supply price is present cost of asset, but prospective receipts Notes
are the future returns of property. The receipts spread in economic life of capital property should be
make equivalent to its supply price because future receipts are less costly from the similar present
price. Entrepreneurs can not differentiate the block expenditure of future and present receipts on
new investment.
Keynes used the ‘Annual’ word for required annual net return during its life period. On every
annual it is far from present such years, the present price of these annual can found by discount. The
measurement of compound interest is used in apposite side for discount.
If one capital price P is gives on compound interest for n years, it will becomes A value to collect. So
n
A = P (1 + r) . Where r is the rate of interest. In other words, if A, r and n are known, then the value
of P is gives as P = A (1 + r) . Here, future income or returns A can be understand discounted equals
n
to A. Its formula is used to get present value of get income after a certain time period. Like that, if
future or present cost is given, then we consider the discount rate. For example, if one firm purchase a
capital logistic in 1, 00,000 rupees, by that after two month it hopes to get 1,21,000 rupees then annual
income can be consider by that formula. Here
1,21,000
1,00,000 =
(1 r) 2
+
1,21,000
1 + r = = 1.1
1,00,000
r = 0.10 = 10%
Receivings in real life gets continuously in the life of capital assets. Let, the series of required future
receiving is A , A , A , …………A , here it is the sign of Hereunder the year. P , P , P , ……, P are
n
3
1
3
n
1
2
2
its present price. The total present price of required annual future reciepts are P + P + P + …, P .
1
n
2
3
Or
A A A
PV = 1 + 2 + ........... n
(1r+ ) (1r+ ) 2 (1r+ ) n
Here, PV means the total discounted present price of future flow of required income and the investment
in capital assets.
A 1 , A 2 , A 3 ,..........., A n
(1r+ ) (1r+ ) (1r+ 2 ) 3 (1r+ ) n
These items are presents the present price of acceptable of required income flow of first year, second
year, third year and the last nth year.
Now, there is an important question that should be involved or not in investment projects. If the cost
of capital goods is less than the present value of receipts, investment project is beneficial. But, If the
investment on goods is more than the income, then should not involve the investment. When both
are only equals, then investment become the subjects of indifference.
Illustration
A 5 years economic life instrument provides the 1,000 rupees. Its present cost is 35,000 rupees and
market rate of interest is 12%. Is it profitable to invest in that instrument?
Solution:
Present value of required receipts

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