lanned investment spending, a component of aggregate demand, is equal to
A) fixed investment plus actual inventory investment.
B) fixed investment plus unplanned inventory investment.
C) fixed investment.
D) fixed investment plus planned inventory investment.
The Correct Answer and Explanation is:
Correct Answer: D) fixed investment plus planned inventory investment.
Explanation:
Planned investment spending is a critical component of aggregate demand, which represents the total demand for goods and services in an economy at a given overall price level and in a given period. Investment spending, in this context, refers to expenditures by businesses on capital goods that will be used for future production. This includes two main components: fixed investment and inventory investment.
- Fixed Investment:
This refers to spending on long-term physical assets such as machinery, buildings, tools, and equipment. These are the investments that businesses make to increase productive capacity. Fixed investments are always planned since they require budgeting, resource allocation, and long-term strategic planning. - Inventory Investment:
This involves changes in the stock of unsold goods or raw materials that businesses hold. Inventory investment can be planned or unplanned:- Planned inventory investment happens when firms intentionally increase or decrease inventory to meet expected changes in demand.
- Unplanned inventory investment occurs when sales do not meet expectations, leading to an unintended change in inventory levels.
In calculating planned investment spending, only planned inventory investment is included because unplanned changes are a signal of disequilibrium between production and sales and often prompt firms to adjust future production levels.
Therefore, planned investment spending = fixed investment + planned inventory investment.
This measure is important because it reflects firms’ expectations about the future. If businesses expect strong demand, they are likely to invest more in both capital and inventory, increasing aggregate demand. Conversely, if they foresee weak demand, they will reduce investments, leading to slower economic growth. Policymakers closely monitor planned investment spending to anticipate economic trends and formulate appropriate fiscal or monetary policies.
