Answer to Question #209547 in Macroeconomics for Vuyo

Question

With reference to the flexible accelerator, explain the behaviour of business fixed investment

Answer 1

When income or consumption rises, so does investment, according to the acceleration principle. When people's income rises, so does their consumption, which necessitates the production of more goods. If the already available capital is entirely utilized, more capital will be required to generate them. Induced investment is defined as investment that is triggered by changes in income or consumption. The accelerator is the numerical value of the relationship between a rise in income and an increase in investment. If national income rises, net induced investment rises, but if national income or output remains constant, induced investment falls to zero. A specific quantity of capital is required to produce a given amount of output.

There are lags in the adjustment process between the level of output and the amount of capital stock, according to the flexible accelerator theory. They are explained at the company level and then extended to the aggregate level by the theory. Assume that the demand for output has increased. To meet it, the company will first use its inventories, followed by a more extensive use of its capital stock. If there is a significant increase in output demand that lasts for a long time, the firm will increase its need for capital stock. This is the time it takes to make a choice. There could be a delay in ordering the capital due to administrative issues. There is a financial lag in raising money to buy capital because capital is not readily available and abundant in the financial capital market. Finally, there is a time lag between placing an order for capital and receiving it.