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the different between MEC & MEI: i. While the MEC shown relationship between the rate of investment and the desired stock of capital, MEI shows the relationship between the rate of investment and the actual rate of investment per year (MEC shows relationship between rate of investment and capital stock while MEI shows relationship between rate of investment & actual investment). ii. Thus MEC is concerned with a flow. There will be important differences between the capital stock people desire and the capital investment that takes place. This is because there is physical constraining upon the construction of capital goods. ‐ The accelerator principles: The accelerator model asserts that investment spending is proportion to the changes in output and is not effected by the cost of capital. The basic idea of accelerator principle that firms install new capital when they need to produce more, therefore, firms would invest if output was expected to change, but they would not otherwise undertake new investment. The simplest view of the accelerator start from the assumption a fixed rate relating output to the amount of capital normally require to produce it, that is fixed capital output ratio. K*t = α Yt
It assumes that firms always adjust their capital to their output so that the capital stock of the previous period must be in the ratio to the output of the previous period: Kt‐1 = α Yt‐1
Net investment is the growth in capital stock between periods: It = K*t – Kt‐1 = α Yt – α Yt‐1 = α (Yt – Yt‐1) It = α ΔY
Thus net investment is proportional to the growth of output, rather than its level. Rising output brings about positive net investment and constant output brings about zero net investment and falling output brings about negative net investment.
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