Transcript Investment in private and public sectors

Investment in the
Private Sector
Learning outcomes
• By studying this section students will be
able to:
– define and distinguish between different types
of investment
– analyse the factors which affect an investment
decision
– analyse the effects of investment on the
economy
Definition
• Investment may be defined as expenditure
on capital goods and working capital.
– Fixed capital goods consist of buildings, plant
and machinery.
– Working capital consists of stocks of raw
materials, semi-manufactured goods and
manufactured goods which have not yet been
sold.
– Net investment = gross investment –
depreciation
Factors affecting investment
• Investment in the private sector is
undertaken to increase profitability.
• Organizations will seek to invest in those
projects which yield the highest return.
• The profitability of an investment project
can be analysed by investigating its costs
and revenue.
Cost of investment
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•
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planning costs
costs of capital goods
cost of financing investment
running costs of the investment
Revenue from investment
• price of output
• quantity of output sold
• other factors
Revenue Factors
• Strong demand from
tourists causes new
investment in
accommodtaion in
Koh Phi Phi, Thailand
Appraisal techniques
• payback method
• net present value
• internal rate of return
The accelerator principle
• Investment activity in economies tends to
be volatile.
– When demand for consumer goods and
services is relatively stable in an economy,
much of the demand for capital goods will
take the form of replacing worn-out plant and
machinery.
The accelerator principle (cont.)
• Investment activity in economies tends to
be volatile.
– However, if demand for final goods rises and
there is no spare capacity in an industry, then
new machinery will have to be purchased.
Thus the demand for capital goods will
significantly increase to include new machines
as well as replacement machines.
The accelerator principle (cont.)
• Investment activity in economies tends to
be volatile.
– Similarly, if the demand for final goods in an
economy falls, firms will find they have overcapacity and too many machines. They will
reduce the stock of machines to the new
lower levels needed by not replacing worn out
machines, so the demand for capital goods
will fall.
Risk and sensitivity analysis
• Sensitivity analysis is a technique for
incorporating risk assessment in investment
appraisal.
• It works by highlighting the key assumptions
upon which investment appraisal figures were
based.
• Sensitivity analysis would calculate the effects
on an investment appraisal of changes in these
assumptions.
• It illustrates a project’s sensitivity to a variety of
scenarios.
Sources of funds
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•
•
•
retained profits
new share issues
loans
government assistance
Investment Conditions
Investment in the
public sector
Learning outcomes
• By studying this section students will be
able to:
– identify the sources of public sector
investment
– identify different types of public sector
investment
– describe different methods of public sector
investment
– identify sources of funds for public sector
investment
Sources
• National level
– government channels leisure and tourism
investment through public corporations,
quangos such as Sports Councils and
government departments
• Local government
• Supranational level
– e.g. the EU
Types
• Buildings and land
– E.g. parks, leisure centres and museums.
• Plant and machinery
– E.g. playground apparatus, computerized
booking systems and canal lock equipment.
• Infrastructure
– E.g. roads, railways and airports, water and
sewerage, power and telecommunications.
• Research and development
Methods and aims
• Methods
– projects which are wholly public sectorfinanced
– projects which are jointly financed by the
public and private sectors
– private sector investments which are eligible
for public sector investment incentive grants.
Methods and aims
• Aims
– provision of goods and services which have
significant public benefits, but which might not
be profitable enough to attract private sector
investment.
– economic development or regeneration of a
particular area.
• Public-funded
restoration projects
on the island of
Chios, Greece.
• Aims
– Preservation of
cultural capital
– Economic
regeneration
– Provision of jobs
Investment appraisal
• Cf private sector
• Cost–benefit analysis
– all the costs and benefits of a project are
identified and weighed up, including social as
well as private ones.
Cost / benefits of canal restoration
Investment incentives
• Governments offer incentives to encourage
investment particularly:
– in areas of high unemployment
– where there are clear social benefits offered by a
scheme
– where structural changes in the economy have led to
geographic areas of economic decline (for example,
rural decline etc.)
• Incentives can include
– tax relief
– subsidised loans
Sources of funds
• Sources of funds for public investment
include:
–
–
–
–
–
operating profits
taxation
borrowing
national lotteries
Public Private Partnerships (PPPs)
Sydney Opera House
• The first estimates for the
costs of the Sydney
Opera House were $7
million.
• An appeal fund raised
about $900,000
• The rest of the $102
million that the Opera
House ended up costing
came from the profits of a
series of lotteries.
(Top photo courtesy of Sydney Opera House)
The public sector investment
debate: Cons
• The public sector is not a good interpreter
of people’s wants.
• The public sector is not good at ensuring
efficient use of funds and tends to allow
waste.
• Public sector investment causes an
increase in taxation or public borrowing.
Opportunity Cost of Public Sector
Investment
• An increase
in public
sector
investment
means either
– A reduction
of other
expenditure
(BC)
– Or an
increase in
taxes (YZ)
The public sector investment
debate: Pros
• There is insufficient incentive for the private
sector to invest in public goods.
• The private sector under invests in goods which
have mainly social benefits.
• The private sector may not be able to undertake
the finance or risk for very large projects.
• Public sector investment can help regenerate
parts of the economy which have suffered from
restructuring.
• Public sector investments can generate jobs
when unemployment is high.
Investment in the
public sector:
The End
In-class group assignment:
Aircraft Demand
• The demand for new
aircraft is very volatile
and explained by
reference to the
accelerator principle
• What are current demand
conditions for new
aircraft?