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CHAPTER OUTLINE
I. This rst section introduces the relationship between investment and devel-
opment and outlines the two categories of investment: public and private. It
explains the dominant role that is played by private investment in developing
countries and stresses the importance of the effective use of capital. The main
message is that the ef cient use of investment is often more important for
growth than the sheer volume of investment.
II. In analyzing which projects to undertake, both the public and private sectors
rely on traditional cost– bene t analysis. In calculating net present value (NPV),
public and private projects take into account different aspects of opportunity
costs. Public projects must consider aspects such as marginal revenue product,
shadow prices, and welfare weights, which take into account the good of the
country as a whole. The private sector often considers factors that can be
in uenced by government policy such as macroeconomic and po liti cal stabil-
ity, infrastructure, trade policy, and institutions, as well as the cost of doing
business.
III. Foreign direct investment (FDI), which accounts for about half of all private
ows, has generated considerable controversy because it involves foreign
own ership and management of productive enterprises. FDI typically provides
a package that includes management skills, technology, and access to world
markets. The impact of FDI, which comes from multinational corporations
(MNCs), depends greatly on policies adopted by the host countries, includ-
ing per for mance requirements, trade protection, and incentives such as tax
holidays.
Investment and Savings
CHAPTER 10
Investment and Savings | 69
Boxed Examples
There are no boxed examples in this chapter.
In the New Edition
This is Chapter 11 from the sixth edition, which has been revised and updated.
Some elements of “Saving and Resource Mobilization” from Chapter 10 in the
sixth edition have also been integrated into this chapter.
Class Notes
Chapter 10 in the seventh edition draws on material from two chapters in the sixth
edition. The chapter assumes students have had some background in the principles
of macroeconomics and focuses on topics central to developing nations. These
include barriers to both public and private investment and alternative sources of
savings to nance productive investments. Special attention is given to foreign
direct investment and its role in promoting economic growth.
QUESTION BANK
Concept Map
Present Value
Opportunity Costs
Shadow Prices
Welfare Weights
FDI Patterns and Products
Bene ts and Drawbacks of FDI
FDI and Growth
Policies Toward Foreign Direct Investment
House hold Saving and Consumption
Government Saving
Multiple- Choice Questions
1. In an economy with a 9 percent interest rate, the present value of $1,000 that
you will receive three years from now is:
a. $772.
b. $1,295.
c. $917.
d. $1,090.
2. The net present value of a project is the:
a. sum of the project’s cash ow from each year.
b. project’s total cash ow divided by the current interest rate.
c. sum of the present value of the project’s cash ow from each year.
d. project’s total cash ow, less its start- up costs.
3. The opportunity cost of cotton:
a. is considered a negative opportunity cost in the analysis of public
projects.
b. is considered a positive opportunity cost in the analysis of public
projects.
c. can be considered a negative or a positive opportunity cost in the analysis
of public projects, depending on whether the cotton could have been used
as an export or an import.
d. holds the same considerations for both the public and private sectors.
4. When a private rm undertakes investment analysis, it conducts:
a. risk aversion strategy.
b. commercial project appraisal.
c. a random walk.
d. asymmetric information analysis.
5. Welfare weights should:
a. be used with caution so that they do not become arbitrary.
b. never be used because they are unreliable.
c. be used for every project because they are as reliable as the discount rate.
d. only be used for small projects.
6. When welfare weights are introduced or shadow prices are further adjusted
to re ect social goals, the pro cess is known as:
a. Fabian socialism.
b. social project appraisal.
c. consumption coordination.
d. chain- weighted social– welfare bene t.
7. The majority of direct foreign investment in developing countries comes:
a. equally from the private and public sectors.
b. predominantly from the public sector.
c. predominantly from the private sector.
d. from multinational corporations.
8. By 2010, half of all FDI in developing countries went to:
a. 10 countries.
b. 27 countries.
c. 60 countries.
d. 102 countries.
9. Today, FDI is aimed primarily at all of the following broad categories
EXCEPT:
a. natural resource- based activities.
b. alternative and “green energy” production.
c. manufacturing and ser vices aimed at the domestic market in the host
country.
d. labor– intensive manufacturing aimed for export on world markets.
10. Multi nat iona l cor por ations:
a. avoid spillovers whenever possible.
b. often encourage horizontal spillover.
c. often encourage vertical spillover.
d. encourage both horizontal and vertical spillover.
11. A positive relationship between FDI and growth can be seen when FDI is
aimed at:
a. manufactured projects for the domestic sector.
b. natural resource– based industries.
c. manufactured projects for export.
d. all of the above.
12. Which of the following is an income tax incentive that exempts rms from
paying taxes on corporate income, usually for three to six years?
a. tax extension
b. tax subsidization
c. tax holiday
d. tax shelter
13. Export– oriented, labor– intensive, “footloose” industries should:
a. never be offered tax holidays.
b. at times be offered tax holidays because they can be more readily in u-
enced by such incentives, as their options are wider than other industries.
c. at times be offered tax holidays because they are more likely to provide
positive spillover.
d. both b and c.
14. Which of the following is NOT a standard restriction placed on FDI by gov-
ernments interested in capturing the bene ts of that investment?
a. per for mance requirements
b. labor requirements
c. restrictions on pro t repatriation
d. production schedules
15. According to the life- cycle model of house hold savings, when do savings
rates tend to peak in a person’s working years?
a. beginning
b. middle
c. end
d. both b and c
16. The theory that, under certain circumstances, a change in taxes will have
absolutely no effect on total domestic saving, is known as the:
a. Ricardian equivalence.
b. Mill’s minimum.
c. Marshall’s conundrum.
d. Keynesian nulli cation.
IDs and Paired- Concept Questions
These terms can be used individually as short- answer identi cation questions, or
they can be used in pairs. In the latter case, ask students to explain (1) the meaning
and signi cance of each of the two terms and (2) the relationship between them.
2. Investment, growth
4. Net present value, internal rate of return (IRR)
6. Economic openness, investment
8. Income tax incentives, labor– intensive industries
10. Positive spillover, negative spillover
12. Dependent population, working population