2021-09-16 17:18:20
How is Savings related to Investment?
Some of you have asked this question.
Think about a formula where investment comes, a formula which you are familiar with.
Answer - It's the GDP formula using expenditure method.
Y (GDP) = C (Consumption) + I (Investment) + G (Govt. expenditure) + NX (= (X-M) Exports - Imports or Net Exports)
Let's take two scenario - closed economy and open economy
Closed economy scenario
In a closed economy, NX = 0 because there is no export/import happening (definition of closed economy)
So, Y = C + I + G
=> Y - C - G = I
=> Y - (C+G) = I
What is Y - (C + G)? This translates to our National Income (Y) minus all our expenditures (through either consumption (C) or govt. expenditure (G)
And what's Income - Expenditure? It's Savings, right?
So,
Y - (C+G) = National Savings (S)
and Y - (C+G) = I (See above to above eqn)
So, S = I => Savings = Investment
This is for closed economy.
Open economy scenario
In open economy
NX won't be 0 because exports/imports happening (in extreme case, when exports = imports, then NX = 0 but it doesn't happen practically)
So, our formula would be Y - (C + G) = I + NX
That is,
National Savings (S) = I + NX
Now, i
f NX > 0 (when exports > imports), then Savings > Investment and
if NX < 0 (when exports < imports), then Savings < Investment
In India, generally we have Trade Deficit (-ve Balance of Trade), that means our exports < imports, so for us,
Savings < Investment (in general)
897 views14:18
N
