Demand For Investment

legoman

Hi,

Can someone help explain this to me.

Keynesians think that demand for investment is interest-inelastic. I don't see how.

If Keynesians think that the demand for money is interest-elastic so that a small increase in interest rates will result in a more than proportionate decrease in demand for money.

Demand For Money
If rates rise a small bit because Keynesians think that money and bonds are close substitutes then they will more than proportionately reduce their demand for money. I presume they invest their money into bonds and investments thus reducing the demand for money. Their rational is that "money and bonds are practically the same thing so I don't mind. I only care about the rate of return."

Demand For Investments
So where does the money go, I assume that it goes into investments e.g. bonds, projects etc. If Keynesians think that demand for investments is interest-inelastic they believe that a change in interest rate will cause an less than proportionate change, in the opposite direction, into investments.

I would have thought that a change in rate would have caused a larger proportional decrease in demand for money and thus a larger proportional increase in investments.

Where am I going wrong?



L

Économiste Monétaire

http://en.wikipedia.org/wiki/IS/LM_model


"[A] small increase in demand for money will result in a more than proportionate decrease in demand for money." Umm, what?

legoman

Économiste Monétaire wrote: »

http://en.wikipedia.org/wiki/IS/LM_model


"[A] small increase in demand for money will result in a more than proportionate decrease in demand for money." Umm, what?

Thanks, for the link and thanks for spotting my mistake.

L

nesf

legoman wrote: »

Hi,

Can someone help explain this to me.

Keynesians think that demand for investment is interest-inelastic. I don't see how.

If Keynesians think that the demand for money is interest-elastic so that a small increase in interest rates will result in a more than proportionate decrease in demand for money.

Demand For Money
If rates rise a small bit because Keynesians think that money and bonds are close substitutes then they will more than proportionately reduce their demand for money. I presume they invest their money into bonds and investments thus reducing the demand for money. Their rational is that "money and bonds are practically the same thing so I don't mind. I only care about the rate of return."

Demand For Investments
So where does the money go, I assume that it goes into investments e.g. bonds, projects etc. If Keynesians think that demand for investments is interest-inelastic they believe that a change in interest rate will cause an less than proportionate change, in the opposite direction, into investments.

I would have thought that a change in rate would have caused a larger proportional decrease in demand for money and thus a larger proportional increase in investments.

Where am I going wrong?



L

Just to clarify something for you, Keynesians don't necessarily think the above, you're just talking about the IS-LM model which is really far too simplistic to be very useful in modelling real economies (or at least in the form you've probably been exposed to). It's more of a teaching tool than anything else. Useful for getting an idea of certain concepts but not "what Keynesians think".