Crusoe Investment - loan

Crusoe Investment

How can Crusoe or any other investor know if the value of the larger future output is worth the short-term cost? Most of us have a preference for goods now rather than later. For example, if you are a typical person, you would prefer a sleek new sports car now rather than the same car ten years from now. On average, individuals possess a positive rate of time preference. That is, other things being the same, people subjectively value more highly goods obtained sooner than goods obtained later.

When only Crusoe is involved, the attractiveness of the investment in the fishing net depends upon his time preference. If he places a high value on a couple of fish per day during the next fifty-five days, as indeed he may if he is on the verge of starvation, the cost of the investment may well exceed the value of the larger future output. If Crusoe could find someone who would loan him fish while he built the net, however, he could consume the borrowed fish now while building the net, and pay later with the extra fish made possible by the net. If such a loan is available, the attractiveness of the investment (building the net instead of hand-fishing now) will be influenced by the price of borrowing fish. Is the cost of borrowing fish in order to maintain his consumption while he constructs the net worth the extra cost? To answer this question, Crusoe must consider the cost of paying for earlier availability-he must consider, in effect, the interest rate.

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