investment and real interest rate
The article is about how real interest rates drive planned investment. Think about the function investment as a function of real interest rates. Planned investment as a function of real interest rates. Talking about real interest rates, I’m really just talking about nominal interest rates factoring out or discounting what’s going on with inflation. There’s other videos where we go into more depth about that. Another thing if there were no inflation real and nominal rates would be the same thing. I want to tackle it with a very tangible example. Let’s say this upcoming year there’s a bunch of potential planned projects. Let’s call this projects. These are potential investments. You have projects, and then you have some level of expected return. Each of the people who are thinking about these projects, they all have their spreadsheets out, and they’ve taken in risk and probabilities and all of the rest. They’ve come up with their expected return numbers. Let’s say project A has an expected return of 20%, B 18%, C 16%. I’ll do a couple more. D is 10%, E is 5% and F is 2%. Let’s say initially in one state of affairs interest rates are relatively high. Let’s R1 is equal to 19% interest rates. We have 19% real interest rates. These are the real expected returns.
Which of these projects will actually be invested in? Which of the ones will people actually do?
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