The impact of investment on economic growth and development

1.3 Concept of growth:

Economic growth is the increase in income of the economy in a certain period of time (usually one year). This increase is expressed in scale and growth rate. Scale reflects the increase more or less while growth rate is used to compare the increase between periods. People often determine economic growth through the indicators of GDP (gross domestic product), GNP (gross national product) and GNI (income per capita).

The nature of economic growth is to reflect the quantitative changes of the economy. Development investment not only increases the assets of investors but also directly increases the assets of the national economy. For example, when an investor builds a factory, that factory is not only the asset of the investor but also the production potential of the entire economy, creating more jobs for workers. Thus, development investment is an indispensable factor in the growth process of an economy.

1.4 Concept of development:

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Economic development is the process of growth and progress in all aspects of the economy. Economic development is a broader concept than growth. If growth is considered a process of quantitative change, development is a process of both quantitative and qualitative change of the economy. It is a close combination of the process of perfecting both economic and social issues in each country. Economic development includes growth, the transformation of economic structure in a progressive direction (usually considering the transformation of sectoral structure: increasing the proportion of industry and services and reducing the proportion of agriculture), increasingly better changes in social issues (eliminating poverty, malnutrition, increasing average life expectancy, increasing people's access to health services, clean water, ensuring social welfare, reducing social inequality, etc.).

On the downside of development investment, besides increasing economic output, development investment also causes some negative impacts such as pollution, environmental degradation, depletion of natural resources, affecting human health. Currently, in many countries with high economic growth rates, people have paid attention to

negative impacts on the future caused by rapid growth. A new concept of development has emerged in the world, which is sustainable development. According to the definition of the World Bank WB: "Sustainable development is development that meets the needs of the present without compromising the ability of future generations to meet their own needs." In other words, sustainable development is a harmonious, close, and reasonable combination of three aspects: economic growth, improving social issues, and protecting the environment. This is the goal of many countries, including Vietnam.

2. Investment multiplier

2.1 Model idea

The investment multiplier model originated from Keynes's thinking. He believed that increased investment would compensate for the shortage of consumer demand. To ensure a continuous increase in investment, he introduced the multiplier principle.

2.2 Investment multiplier model

The investment multiplier reflects the role of investment in output. It shows how much output increases when investment increases by one unit.

Calculation formula (1):

k  Y

 I

In which:  Y is the level of output increase

 I is the increase in investment

k is the investment multiplier

From formula (1) we have:

 Y k .  I

Thus, increasing investment has the effect of amplifying output by a factor of several times. In the above formula, k is a positive number greater than 1. Because when I=S, formula (2) can be transformed into:

k  Y

 I

In there:

 Y

 S

 Y

 Y  C

1  Y

 C

 1

1  MPC

 1

MPS

(3)

MPC

 C

 Y

Marginal propensity to consume

MPS  S

 Y

Since MPS <1, k>1

Marginal propensity to save

The larger the MPC, the larger the k, and thus the larger the output gain.

As output increases, employment increases.

In fact, increased investment leads to an increase in production factors (machinery, equipment, raw materials, etc.) and labor scale. The combination of these two factors makes production develop, resulting in an increase in economic output.

3. Acceleration Theory of Investment

3.1 Central idea of investment acceleration model

If the investment multiplier explains the relationship between an increase in investment and output or how an increase in investment affects output. Thus, investment appears as a factor of aggregate demand. According to Keynes, investment is also considered from the perspective of aggregate supply, that is, each change in output also changes investment.

Firms undertake investment projects to bring their capital levels up to a desired level. It is easy to accept that the desired capital level depends on the level of output. When output levels are higher, firms have a greater demand for capital, because capital is one of many factors in producing output. The central idea of the accelerator model is based on this simple relationship.

3.2 Contents of investment acceleration theory

The accelerator model assumes that the desired amount of capital is a multiple of the level of output.

quantity:

t   . Y t

  0

(1)

In the simplest form of the accelerator model, net investment is exactly equal to the difference between the desired capital stock and the capital stock at the end of the previous period. If we ignore for the moment the depreciation of capital during use, we have the following relationship:

I K d K d

(2)

n , tt

t  1

The amount of capital available at the end of the previous period is the desired amount of capital.

depends on the income of that period.

K t  1

K

t  1

  . Y t  1

(3)

Hence (2) is rewritten as follows:

I K d K d

  . Y

  . Y

  .( Y  Y )

n , tt

t  1

tt  1

In , t

  .  Y t

(4)

The level of investment depends on the change in output.

This simple form shows us an important feature of the accelerator model from equation (1), which can be thought of as the ratio of the desired level of capital to output:

K 

t

(5)

In that context, investment will fluctuate greatly during the business cycle. According to the Keynesian crossover model, changes in investment have a multiplier effect on

output. Thus, together with the multiplier effect, the simple accelerator theory can only explain the cyclical fluctuations in output. A shock to output will change the level of investment, which will change the equilibrium level of output through the multiplier effect, and affect investment through the accelerator effect. However, as with Keynes' simple multiplier theory, we need to modify the accelerator theory of investment before it can be used to explain investment in the real economy.

The first adjustment we need to make to make the simple accelerator model more realistic is to assume that the actual capital stock will gradually adjust to the desired level. Suppose we use the model for a given year. Suppose also that, as the capital stock increases, the desired capital stock also increases. Investment projects will be undertaken to bring the capital stock to the desired level. In addition to what we will call the direct costs of investment, we need to take into account adjustment costs, which are reasonable to assume that these costs increase as investment increases. Examples of adjustment costs include having to close down a plant or hire overtime to install equipment, the additional costs of speeding up the construction of a plant, and the possible slowdown in production as management focuses on implementing investment projects. If adjustment costs increase sharply, then the optimal decision for the firm will be to gradually adjust the actual capital stock to the desired level. Then the difference between these two quantities of capital is only partially eliminated in each period.

To reflect this adjustment lag, we can write (2) as follows:

Using (1) we have:

In , t

  .( K d

 K t  1 )

0    1

(6)

In , t

  .(  . Y t  K t  1 )

(7)

In which, usually

K t  1 different

t  1

because the actual amount of capital is different from the original amount of capital

desired in each period. Equation (7) defines a partial adjustment mechanism in which the coefficient  represents the portion of the difference between the desired and actual capital stock that is realized through investment. Since only a part of the change in the desired capital stock is realized in a period, investment in a given period will respond to changes in income in some previous period. Equation (7) implies that investment responds more slowly to changes in current income, which in turn implies that investment does not change as much in the short run as the simple accelerator model predicts (4). Equation (7) is called a flexible accelerator model - which may be more appropriate for the fluctuations in actual investment. Although investment is volatile, it does not fluctuate as much as the simple accelerator model predicts.

The flexible accelerator model can also be modified to reflect variations in the rate of change of investment to fill the gap between the actual and desired capital stock (parameter  ). This is a choice variable for the firm and can be affected by credit conditions, including interest rates, taxes, and other factors.

3.3 Comments on the investment acceleration theory

*Advantage:

a. The investment accelerator theory reflects the relationship between output and investment. If α does not change during the planning period, the formula can be used to make quite accurate plans.

b. The theory reflects the impact of economic growth leading to investment. When the economy grows high, economic output increases, business opportunities are large, leading to increased savings and more investment.

* Disadvantages:

a. The theory assumes that the proportional relationship between output and investment is fixed. In reality, this quantity (α) always changes due to the influence of many other factors.

b. In fact, the theory has considered the fluctuation of net investment (NI) and not

must be the variation of total investment due to the impact of output changes. Because from work

awake

t   . Y t

can be written:

At time t:

t   . Y t

(8)

At time (t -1):

t  1

  . Y t  1

(9)

Take (8) minus (9), we have:

K d t - K t-1 d = α.Y t -α.Y t-1 = α.( Y t -Y t-1 ) (10)

In there:

K d t - K t-1 d : Net investment and equals (I t - D) where D is depreciation Therefore:

I t -D= K d t - K t-1 d = α( Y t -Y t-1 d )= α.ΔY (11)

And net investment ΔI= α.ΔY

Thus, according to this theory, net investment is a function of the increase in output. If output increases, net investment increases (by α times). If output decreases, net investment will be negative. If aggregate demand for output remains constant in the long run, net investment will be zero (when ΔY=0 then ΔI=0)

However, when output remains unchanged between two periods, net investment is zero but total investment is a positive number because businesses still have to invest in replacing worn-out machinery and equipment.

c . According to this theory, all desired investment capital is implemented in the same period. This is not true for many reasons, such as the supply of factors related to the implementation of investment capital is not met, because demand exceeds

supply…thus the accelerator theory of investment continues to be refined over time. According to the later accelerator theory of investment, the desired investment capital is determined as a function of the current and past levels of output, that is, the desired scale of investment is determined in the long run.

If K t d and K t-1 d are called the investment capital implemented in period t and t-1

t t-1

Kt * is the desired investment capital λ is a constant (0< λ <1) Then: K t –K t-1 = λ.(Kt * –K )

This means that the change in investment capital between two periods is only a fraction of the

difference between desired investment capital in period t and actual investment capital in period t-1. If λ =1 then K d =Kt*

And the later completed investment accelerator theory also mentioned total investment.

According to the initial investment acceleration theory, net investment ∆I=I t - D t =K t d -K t-1 d . According to the later investment acceleration theory,

K d - K

t- d = λ(Kt * t

–K t-1

) and thus ∆I= λ(Kt * t

–K t-1 )

To determine the total investment, we assume: D t =δ.K t-1

δ is the depreciation coefficient and 0< δ <1. Therefore

t t-1

t t-1 t-1

I t - D t= I t - δ K t-1 d = λ(Kt * –K ) or I t = λ (Kt * –K ) + δ K d

I t is the total investment during the period and is a function of desired capital and realized capital.

4. Internal fund investment theory

According to this theory, investment is directly related to real returns:

I = f (actual profit). Therefore, the investment project that brings high profit will be selected. Because of high profit, retained earnings for investment will be larger and the investment level will be higher. Sources of capital for investment can be mobilized including: Retained earnings, depreciation, borrowing of all kinds, including issuing bonds and selling shares, which are sources of capital mobilized from outside. Borrowing must be repaid, in case the economy falls into recession, the enterprise may not be able to repay the debt and go bankrupt.