Investment and Consumption Difference between every day and economic notions of investment and consumption
Investment and Consumption
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- What I want to do in this video is compare investment to consumption
- and we're going to think about it in two contexts.
- One I would call the everyday conventional context
- and the other one would be how we think about in an economics context
- because these words mean something very particular to an economist
- and it's important that it means something particular
- because we're going to start using these words or this terminology or this classification
- to understand where GDP is coming from.
- So every day, so let me draw a line over here, this is going to be, this is kind of every day
- or conversational versions of this term, and down here we'll put the economics
- the economic versions of these terms, especially when we think of it in the context of accounting for GDP
- and there not necessarily all different, but they are different in important ways
- so an investment, really in both cases, you can generally view it as something that you do to get some future gain
- so for example, if I today, build a house, so I build a house
- So that is the house I build today and that will be the time line
- the house will keep lasting and it's an investment because it's going to be giving me future gain
- a year from now, I'll still be able to live in this house, so I will be able to have the same rent, which is a future gain
- Future gain two years from now -- it'll keep giving some kind of gain.
- You could have a financial instrument, maybe some kind of debt instrument
- you're lending money to someone else, so maybe, maybe you buy a bond,
- which is essentially you lending money to someone else.
- That is an investment, because in the everyday sense of it,
- because when you make, when you have that asset, it's going to pay off something in the future
- it's going to pay off some interest or some profit
- and in the everyday sense, I would consider something like, hopefully it would be
- going to college, would be an investment.
- so education, so I'll say education. So if you invest time and money into education,
- it's going to keep paying off.
- hopefully by doing that, you're going to get better employment and higher wages.
- the rest of your life. It will keep paying off.
- So this is the everyday notion of investment.
- The everyday notion of consumption, the way I think about it is,
- you are buying something or you are doing something that you're just going to use
- up in the short term, and just by using it up, whatever that object is, if you just use it up,
- and it's just going to hopefully benefit you in some way, but it's more of a short term thing,
- I would consider that consumption in the everyday sense.
- So if you go buy a candy bar and eat it, you have consumed the candy bar.
- You have not made an investment. If you go to a movie, that is consumption.
- And I'm not making any value judgment that one is better than the other.
- Investment, at the end of the day, you are investing so that you can get future benefit
- that could lead to consumption, because at the end of the day, consumption is one of the things
- that might make your life a little bit better off. So I'm not saying that one is better than the other.
- But watching a movie, that would also be consumption. Spending time buying a book, well you could debate
- if that's education or not, but let's say you buy a book that is not educational
- that is consumption. but it is making you happier. Hopefully it's making your life better in some way
- Now, the economic definitions are related to these everyday definitions
- but they're a little bit more precise. And they make the definitions in a way
- that they're easier to account for if you are a nation. They're easier to keep track of
- So the way an economist would define it,
- they would define economic investment as spending on capital equiment,
- capital equipment are things like if you are a factory,
- you will buy the equipment to run your factory, you buy the robots, and you buy the assembly line
- and you buy the wheel barrow and whatever else.
- the things that have to cart things around. It would be things like inventory
- so for example, the inventory -- and this is still not so different --
- both are being used to produce things in the future
- to produce future benefit. You're buying inventory, sometimes raw material,
- you're going to add value to it, and then they're going to be used to produce something
- in the future. It includes things like the structures, the buildings
- and, and so for all of this, in the economic sense, and this is why it's easier to count for
- this, for the most part, is done by the firms, and it also includes the one thing that
- households do, which is build -- construction of new homes.
- New homes.
- This is from the household. Households. Actually, the buying of a house
- does not show up in consumption or investment because nothing new is produced
- Something just changed hands. So anytime we talk about any of these things, especially
- when we're talking about specific economic terms, is the production of new capital equiment,
- new inventory, new structures, new homes,
- if I just buy a factory from someone else, that does not add to GDP
- it would not be considered investment or consumption because I'm just transferring
- an asset from one person to another.
- It would only be added to GDP when it is first created. And on the consumption side,
- from an economic point of view -- so let me draw a little bit of a line right over here --
- consumption is considered to be any spending, any spending on final goods
- by households except for new homes.
- So let me make this even clearer
- because remember if we're just transferring goods that shouldn't count
- so let me put new, newly produced goods
- now what's unintuitive over here, according to the way we account for GDP
- the tuition that you spend on a college education, that is new spending
- on final goods, let me write final goods or services, that would be consumption
- so education would fall here in the economic sense,
- while in the everyday sense, I would consider education right over here.
- Maybe you're buying a car, you're not buying a car for leisure purposes,
- you're buying a car because you need your car to go to work.
- There's an argument that that could be an investment in the everyday sense
- by buying, by having that car, you have something that can take you to work every day
- so you're getting future benefit, so there's an argument that maybe that's an investment
- in the everyday sense. But in the accounting sense,
- that car, the car would sit right here.
- You bought a new car, but that is considered consumption.
- You did not buy a new house. And the whole reason or at least as far as I understand,
- this is easier to account for. You look at all the spending by firms,
- that's easy to account for. You essentially call that investment
- because at the end of the day, all the spending that the firms are making
- is they're doing to produce some good or service.
- So, we call this investment any spending that the firms do and on top of that,
- when households purchase new homes, we also call that investment
- and that's just easier for the accounting offices of governments to keep track of
- and everything else that households do, we consider consumption
- and we'll see in the next few videos, there are few other categories of things
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