Over- Investment Theory of Trade Cycle
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Over- Investment Theory of Trade Cycle

Over- investment Theory of trade cycle Various theories have been put forward by various economists explaining trade cycle. One such theory propagated is the over-investment theory. The article is an effort to highlight the characteristics of the over-investment theory and explain it in simplified form.

Over- investment Theory of trade cycle

Various theories have been put forward by various economists explaining trade cycle. One such theory propagated is the over-investment theory. The article is an effort to highlight the characteristics of the over-investment theory and explain it in simplified form.

Some writers attribute the boom to excessive investment and the slump as the necessary corrective for the imbalances created throughout the boom. That savings becomes excessive all through the boom is created out by the reality that investment commodities businesses develop more rapidly than consumption product businesses for the duration of the growing period of the trade cycle, and, for the period of the depression, investment commodities business bear more than consumption goods businesses.

But why do investment goods industries expand faster than consumption goods industries in the boom phase of the cycle? On this point, there is a difference of opinion among the various economists who believe in over investment theory. Some authors like Hayek, Machlup, Ropke and Robbins trace this to the banking system. Though they do not regard the trade cycle to be a purely monetary phenomenon, yet they believe that the disparity in the growth sales of consumption goods industries and investment goods industries could not occur if the banking system were not elastic. In this version, an increase in investment opportunities is fed by a low rate of interest, and in this way there is encouragement to adopt more and more roundabout methods of production, and resources are increasingly withdrawn from consumption goods industries through a process of "forced saving".

The over-investment theory correctly states that fluctuations in the rate of investment are the main cause of trade cycles. However, the over- investment theory has some shortcomings; the theory fails to offer a convincing explanation as to why investment fluctuates in so regular a mariner.

Many authors trace back fluctuations in investment to the behavior of the banking system and that we have seen already is not a very satisfactory answer.

Thus the over investment theory fails to provide a proper insight of the business trade cycle and for this reason various other theories have been propagated by economist like Keynes, Hayek, Machlup, Ropke and Robbins.

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