Published in the March 1946 Economic Journal, Shackle’s article reconciles the theoretical claim that interest rates govern investment with business testimony suggesting that borrowing costs seldom affect investment decisions. His explanation preserves the logic of discounted valuation but distinguishes discounting for futurity from discounting for uncertainty. Interest-rate reductions can strongly encourage investment where distant earnings remain credible; their influence dwindles where doubt makes those earnings count for little. A further distinction separates an influence on decisions from an influence that business people consciously notice and subsequently report.
Shackle begins with the prospective purchaser’s valuation of equipment. Each estimated future net return is discounted both by the rate of “pure” interest and by a coefficient expressing doubt about the estimate. Pure interest refers to lending regarded as free from default risk, not from the risks of illiquidity. The article examines its effects rather than its causes. Shackle also acknowledges that separating the best estimate of earnings from an allowance for inadequate knowledge is conceptually imprecise: anticipated obsolescence can affect either. He retains this framework for the argument while mentioning his preference for an alternative construction that he does not develop here.
The next step connects individual valuations to aggregate investment. Entrepreneurs rank equipment differently according to their expectations; orders extend down this ranking until the least optimistic valuation that produces an order equals the equipment’s supply price. Under the article’s assumptions, investment’s responsiveness to interest depends on both the responsiveness of this marginal valuation and the elasticity of equipment supply. Shackle distinguishes gross investment measured as expenditure from gross investment measured as the quantity of instruments produced. Lower interest raises valuations and can bring previously uneconomic projects above the investment threshold, provided other relevant circumstances remain unchanged.
He establishes the potential strength of this mechanism through three cases: a single future receipt, constant earnings in perpetuity, and constant earnings over a finite life. A perpetuity’s value varies inversely with interest, so reducing the rate from 3% to 2% raises its value by 50%. For finite-lived equipment, his numerical comparisons show that the effect grows with the expected duration of earnings.
It is clear that the percentage by which the value of a durable instrument is raised by a given reduction of the interest-rate—that is, the sensitivity of the value to such changes—is a strongly increasing function of the expected revenue-earning life.
This supplies the theoretical benchmark against which Shackle reads the Oxford Economists’ Research Group’s 1939 questionnaire. Only about one-quarter of those approached replied, and approximately three-quarters of respondents denied that borrowing terms affected their capital decisions. The possible bias introduced by nonresponse prevents these figures from being treated as an uncomplicated representative result. Nevertheless, the accompanying comments provide a clue: entrepreneurs require anticipated returns far above financing costs because their projects carry substantial risks.
These comments all speak of an expected or estimated "profit," "return," or "earning power" which must greatly exceed the cost of borrowing if the investment in question is to be made.
High required returns alone do not resolve the theoretical problem. An uncertainty coefficient applied equally to every future receipt reduces valuation but leaves its proportional sensitivity to interest unchanged. What matters is the temporal pattern of doubt. Shackle therefore investigates which future receipts contribute most to the valuation gain produced by lower interest. With uniform earnings, the largest contribution to a small rate reduction occurs around a futurity equal to the reciprocal of the interest rate: roughly thirty-three years at 3%. Interest’s leverage consequently depends heavily on receipts that may lie beyond an entrepreneur’s credible forecasting horizon.
Physical durability is not the same as an economically meaningful earning life. Invention and changing demand can destroy the profitability of equipment that remains technically serviceable. Alternatively, estimates of remote market conditions may become too unreliable to carry substantial weight.
Thus a limit is set by uncertainty to the useful life which it is sensible to assume.
Shackle models this increasing doubt through exponential discounting, adding a risk component, (h), to pure interest, (\rho), to obtain the combined rate (R=h+\rho). For perpetual uniform earnings, valuation’s elasticity with respect to pure interest becomes (-\rho/R), rather than (-1). If the combined rate is 33% and pure interest is 3%, reducing pure interest to 2% raises valuation by only about 3%, compared with 50% without uncertainty. His finite-life examples reinforce the distinction: with a 15% risk component, the same reduction raises the value of forty-year equipment by about 6%, against approximately 18% without that component. These are illustrative calculations grounded in entrepreneurs’ comments, not independently measured risk rates.
The final section explains why even a residual influence may disappear from retrospective accounts of decisions. People concentrate on circumstances that have visibly changed and treat relatively stable conditions as background. Historically modest movements in British long-term interest, further attenuated by uncertainty discounting, might neither prompt recalculation nor attract conscious attention. Nor does a slight valuation increase guarantee many additional investments: that depends on how many contemplated projects lie sufficiently close to profitability.
Shackle’s conclusion is therefore conditional, not a general rejection of interest-rate policy. The article’s central contribution is to show how uncertainty can shorten the effective horizon of investment and weaken the transmission from interest to valuation, while business testimony also reflects selective attention to changing circumstances.
It may be well to repeat, in conclusion, that where, as with houses, doubt concerning future net returns is small, there is nothing in what we have said which contests the belief that the interest-rate can powerfully affect the demand-price and thus the pace of investment in a given type of instrument.
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