ABSTRACT
Investment criteria, whether based on discounted present value or internal rate of return, are devised so as to enable us to choose between alternative uses of investable funds. If there are two or more alternative investment options, each must be compared with the others. In an ideal market economy, in which the only existing rate of return on investment is equal to society’s rate of time preference, the economy is in equilibrium, at least with respect to the capital market. In an ideal capital market, any new investment opportunity that has, with certainty, a net present value above zero (when its outlays and benefits are discounted at 5 per cent) must add to society’s welfare and would therefore be undertaken. The consequent incentive to invest may be supposed to continue until equilibrium is restored, the rate of return being, once more, no greater than society’s rate of time preference.
