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The following statement is false. Correct it, and justify the correction by stating two other factors...

The following statement is false. Correct it, and justify the correction by stating two other factors that can affect investment plans.

The expenditure plans of firms (i.e. investment plans) change every time the real interest rate changes.

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Answer #1

The statement is false.

Banks' investment decision depends on three factors:

(1) Cost of borrowing, which is measured by nominal interest rate. Since real interest rate is the difference between nominal rate and inflation rate, whenever inflation changes, real rate changes, which makes decision-making on basis of real interest rate highly destabilizing.

The higher (lower) the nominal interest rate, the higher (lower) the cost of borrowing and the lower (higher) the investment.

(2) Future outlook

If firms are more (less) optimistic about future economic prospects, the stronger (weaker) the investor confidence, and they will want to expand (not expand) and so, they will increase (decrease) investment.

(3) Availability of tax credits

Investment tax credits decrease the overall tax burden of firms, increasing profitability. So if tax credits are available (not available), firms will invest more (less).

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