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ECON 4020 002 EXAM 1: Ch 6
Consumption and Investment
8
Economics
Undergraduate 3
02/05/2008

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Cards

Term
What does the current income hypothesis state?
Definition
That consumption is a function of current Yd
Term
What are the 3 main types of investment expenditures?
Definition
1) Fixed capital formation investment: Purchase of fixed assets (land, software, etc); largest section.
2) Residential housing: Creation of new homes
3) Inventory investment: goods produced as inventory for next year.
Term
How is investment calculated?
Definition
Gross investment = net investment (net additions to new K stock) + depreciation investment (replacement investment).
Term
What are the 3 tools used for investment
Definition
Equity: Issuing stocks; sells part of ownership, not pay back (least favorable)

Bond: Loan (co must pay back)

Retained earnings: Opportunity cost of interest lost by not lending retained earnings.
Term
What variables influence investment?
Definition
Interest (r)
If interest decreases then investment increases.
Change in Y
Depreciation
Confidence
If agents in the firm expect future profit then this will increase. investment.
Technological changes
Term
Define Toblin's Q
Definition
q = market value/replacement cost = 1
• If q>1 then I >0
• If q<1 then I<0

q theory includes: Expectations, time, confidence, stock market (if stock price increases, investment increases).
Term
Explain whether borrowing constraints increase or decrease the potency of fiscal policy to influence current aggregate demand in each of the following two cases: (a) A temporary tax cut; (b) An announced future tax cut.
Definition
a) A non constrained consumer distributes the tax cut over bother periods, while a borrowing constrained consumer who has lower consumption in the first period will increase 1st quarter consumption more. So fiscal policy is more potent with the presence of borrowing constraints.
b) A future tax cut raises consumption in the 2nd period. A person who is not credit constrained will borrow against that money in the first period, the credit constrained person can't do that, so a future tax cut is more useful to non credit constrained.
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