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SSC CGL Economics Study Material – Investment & Expenditure

SSC CGL Economics Study Material – Investment & Expenditure

SSC CGL Economics Study Material – Investment & Expenditure

Investment and Expenditure

Introduction-

The investment world is divided into owners (those who invest in equities, or stocks) and loaners (those who invest in debt, or bonds). Owning equity in a company is perhaps the most common and widely accessible means by which investors meet their financial objectives. Individual investors become owners of a publicly-traded company by purchasing stock in that company; by doing this, they can participate in the company’s growth over time.

Investors may also choose to loan money to companies, governments or municipalities in return for regular interest payments and the eventual return of their principal at a given date in the future. They can purchase Treasuries from the U.S. government for safekeeping, municipal bonds from state or local municipalities across the country (or even as far away as Guam) to save taxes, or corporate bonds from a multitude of companies to provide a regular stream of income payments for retirement. Investment companies also buy these securities, albeit in greater quantities than the individual investor, to make up their mutual funds, which may appear in a variable annuity.

You may not know it, but when you keep your money in a money market account, you are actually lending your money in return for interest. The interest is small compared to other types of loans and you get your principal back very quickly, but you are still lending money.

Meaning –

An investment is an asset or item that is purchased with the hope that it will generate income or will appreciate in the future. In an economic sense, an investment is the purchase of goods that are not consumed today but are used in the future to create wealth. In finance, an investment is a monetary asset purchased with the idea that the asset will provide income in the future or will be sold at a higher price for a profit.

SSC CGL Economics Study Material - Investment & Expenditure
Types of Investment-

1. Autonomous Investment

Investment which does not change with the changes in income level, is called as Autonomous or Government Investment.

Autonomous Investment remains constant irrespective of income level. Which means even if the income is low, the autonomous, Investment remains the same. It refers to the investment made on houses, roads, public buildings and other parts of Infrastructure. The Government normally makes such a type of investment.

2. Induced Investment

Investment which changes with the changes in the income level, is called as Induced Investment.

Induced Investment is positively related to the income level. That is, at high levels of income entrepreneurs are induced to invest more and vice-versa. At a high level of income, Consumption expenditure increases this leads to an increase in investment of capital goods, in order to produce more consumer goods.

3. Financial Investment

Investment made in buying financial instruments such as new shares, bonds, securities, etc. is considered as a Financial Investment.

However, the money used for purchasing existing financial instruments such as old bonds, old shares, etc., cannot be considered as financial investment. It is a mere transfer of a financial asset from one individual to another. In financial investment, money invested for buying of new shares and bonds as well as debentures have a positive impact on employment level, production and economic growth.

4. Real Investment

Investment made in new plant and equipment, construction of public utilities like schools, roads and railways, etc., is considered as Real Investment.

Real investment in new machine tools, plant and equipments purchased, factory buildings, etc. increases employment, production and economic growth of the nation. Thus real investment has a direct impact on employment generation, economic growth, etc.

5. Planned Investment

Investment made with a plan in several sectors of the economy with specific objectives is called as Planned or Intended Investment.

Planned Investment can also be called as Intended Investment because an investor while making investment make a concrete plan of his investment.

6. Unplanned Investment

Investment done without any planning is called as an Unplanned or Unintended Investment.

In unplanned type of investment, investors make investment randomly without making any concrete plans. Hence it can also be called as Unintended Investment. Under this type of investment, the investor may not consider the specific objectives while making an investment decision.

7. Gross Investment

Gross Investment means the total amount of money spent for creation of new capital assets like Plant and Machinery, Factory Building, etc.

It is the total expenditure made on new capital assets in a period.

8. Net Investment

Net Investment is Gross Investment less (minus) Capital Consumption (Depreciation) during a period of time, usually a year.

It must be noted that a part of the investment is meant for depreciation of the capital asset or for replacing a worn-out capital asset. Hence it must be deducted to arrive at net investment.

Determinants of  investment-

The level of investment in an economy tends to vary by a greater extent than other components of aggregate demand. This is because the underlying determinants also have a tendency to change.

The main determinants of investment are:

The expected return on the investment

Investment is a sacrifice, which involves taking  risks. This means that businesses, entrepreneurs, and capital owners will require a return on their investment in order to cover this risk, and earn a reward. In terms of the whole economy, the amount of business profits is a good indication of the potential reward for investment.

Business confidence

Similarly, changes in business confidence can have a considerable influence on investment decisions. Uncertainty about the future can reduce confidence, and means that firms may postpone their investment decisions until confidence returns.

Changes in national income

Changes in national income create an accelerator effect. Economic theory suggests that, at the macro-economic level, small changes in national income can trigger much larger changes in investment levels.

Interest rates

Investment is inversely related to interest rates, which are the cost of borrowing and the reward to lending. Investment is inversely related to interest rates for two main reasons.

Firstly, if interest rates rise, the opportunity cost of investment rises. This means that a rise in interest rates increases the return on funds deposited in an interest-bearing account, or from making a loan, which reduces the attractiveness of investment relative to lending. Hence, investment decisions may be postponed until interest rates return to lower levels.

Secondly, if interest rates rise, firms may anticipate that consumers will reduce their spending, and the benefit of investing will be lost. Investing to expand requires that consumers at least maintain their current spending. Therefore, a predicted fall is likely to discourage firms from investing and force them to postpone their investment decisions.

General expectations

Because investment is a high-risk activity, general expectations about the future will influence a firm’s investment appraisal and eventual decision-making. Any indication of a downturn in the economy, a possible change of government, war or a rise in oil or other commodity prices may reduce the expected benefit or increase the expected cost of investment.

Corporation tax

Firms pay corporation tax on their profits, so a reduction in tax increases the profits they retain after tax is paid, and this acts as an incentive to invest. There current rate of 20% will fall to 19% in 2017, and then to 18% in 2020.

The level of savings

Household and corporate savings provides a flow of funds into the financial sector, which means that funds are available for investment. Increased saving may reduce interest rates and stimulate corporate borrowing and investment.

Why investment is necessary?

One of the main reasons investing money is important is that it helps to create more money. As opposed to just saving money in a bank account, investing money involves choosing to use that money to buy interest or stock in order to earn a return on the money.

Expenditure

Meaning-

Payment of cash or cash-equivalent for goods or services, or a charge against available funds in settlement of an obligation as evidenced by an invoice, receipt, voucher, or other such document. See also revenue expenditure, capital expenditure.

Types of investment-

  • Fixed Expenditure
  • Irregular Expenditure
  • Discretionary Expenditure
  • Other Expenditure are-
  • Capital Expenditure
  • Revenue Expenditure

1. Fixed Investment-

Fixed investment in economics refers to investment in fixed capital or to the replacement of depreciated fixed capital.

Thus, fixed investment is investment in physical assets such as machinery, land, buildings, installations, vehicles, or technology. Normally, a company balance sheet will state both the amount of expenditure on fixed assets during the quarter or year, and the total value of the stock of fixed assets owned.

Fixed investment contrasts with investments in labour, ongoing operating expenses, materials or financial assets. Financial assets may also be held for a fixed term (for example, bonds) but they are not usually called “fixed investment” because they do not involve the purchase of physical fixed assets. The more usual term for such financial investments is “fixed-term investments”. Bank deposits committed for a fixed term such as one or two years in a savings account are similarly called “fixed-term deposits”.

Statistical measures of fixed investment, such as provided by the Bureau of Economic Analysis in the United States, Eurostat in Europe, and other national and international statistical offices (e.g., the International Monetary Fund), are often considered by economists to be important indicators of longer-term economic growth (the growth of output and employment) and potential productivity.

The more fixed capital is used per worker, the more productive the worker can be, other things being equal. For example, a worker who tills the soil only with a spade is normally less productive than a worker who uses a tractor-driven plough to do the same work, because with a tractor one can plough more land in less time, and thus produce more in less time, even if a tractor costs more than a spade. Obviously one would not normally use a tractor to plough a small garden, but in large-scale farming the income earned using a tractor by far outweighs the expense of using a tractor. It is not economical to use a spade for large-scale ploughing, unless the labour is extremely cheap, and the supply of labour is plentiful.

2. Irregular Expenditure-

Irregular expenditure is expenditure that is contrary to the Municipal Finance Management Act (Act No.56 of 2003), the Municipal Systems Act (Act No.32 of 2000), and the Public Office Bearers Act (Act No. 20 of 1998) or is in contravention of the Municipality‟ supply chain management policy. Irregular expenditure is actually expenditure that is in violation of some or other procedural/legislative requirement as specified in the MFMA.

Although a transaction or an event may trigger irregular expenditure, a Council will only identify irregular expenditure when a payment is made. The recognition of irregular expenditure must be linked to a financial transaction. If the possibility of irregular expenditure is determined prior to a payment being made, the transgression shall be regarded as a matter of non-compliance.

3. Discretionary Expenditure-

A discretionary expense is a cost that is not essential for the operation of a home or a business. For example, a business may allow employees to charge certain meal and entertainment costs to the company to promote goodwill with employees. In the home, discretionary expenses are most often defined as things that are “wants” rather than “needs.”

Other Expenditure are-

1. Capital Expenditure-

Capital expenditure, or CapEx, are funds used by a company to acquire or upgrade physical assets such as property, industrial buildings or equipment. It is often used to undertake new projects or investments by the firm. This type of outlay is also made by companies to maintain or increase the scope of their operations. These expenditures can include everything from repairing a roof to building, to purchasing a piece of equipment, or building a brand new factory.

2. Revenue Expenditure-

A revenue expenditure is a cost that is charged to expense as soon as the cost is incurred. By doing so, a business is using the matching principle to link the expense incurred to revenues generated in the same accounting period. This yields the most accurate income statement results.

There are two types of revenue expenditure:

SSC CGL Economics Study Material - Investment & Expenditure
Maintaining a revenue generating asset. This includes repair and maintenance expenses, because they are incurred to support current operations, and do not extend the life of an asset or improve it.

Generating revenue. This is all day-to-day expenses needed to operate a business, such as sales salaries, rent, office supplies, and utilities.

Other types of costs are not considered to be revenue expenditures, because they relate to the generation of future revenues. For example, the purchase of a fixed asset is categorized as an asset and charged to expense over multiple periods, to match the cost of the asset against multiple future periods of revenue generation. These expenditures are known as capital expenditures.

 

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