Summary
The concept of present value can be confusing at first, but you should
now see the straightforward way to evaluate a stream of benefits into the
distant future. Let’s summarize our findings.
1. A piece of capital is valuable because it generates a stream of
financial benefits into the future. The benefits in each period are
the capital’s marginal revenue product (MRP). The value to the
firm of owning this capital now is what we have called its present
value.
2. The larger is each future MRP, or the longer the stream of MRP
lasts, the greater is the present value of the capital.
3. For a given stream of future MRPs, the present value of the capital
is negatively related to the interest rate. That is, when interest
rates are higher, a given piece of capital is valued less. When
interest rates are lower, the capital is valued more highly.
4. Capital that delivers its MRPs in the more distant future has a
lower present value than capital that delivers the same stream of
MRPs sooner.We now go on to examine an individual firm’s demand for capital goods.
We will then consider the economy’s overall demand for capital. Present
value and the interest rate play a central role in our analysis.