(a) Short – Run Factors
1. Demand for the product:
1. If the market for a particular good is expected to grow and its costs are likely to fall, the rate of return from investment will be high.
2. If entrepreneurs expect a fall in demand for goods and a rise in cost, the investment will decline.
2. Liquid assets:
1. If the entrepreneurs are holding large volume of working capital, they can take advantage of the investment opportunities that come in their way.
2. The MEC will be high.
3. Sudden changes in income:
1. The MEC is also influenced by sudden changes in income of the entrepreneurs.
2. If the business community gets windfall profits, or tax concession the MEC will be high and hence investment in the country will go up.
3. On the other hand, MEC falls with the decrease in income.
4. Current rate of investment:
1. Another factor which influences MEC is the current rate of investment in a particular industry.
2. If in a particular industry, much investment has already taken place and the rate of investment currently going on in that industry is also very large, then the marginal efficiency of capital will be low.
5. Waves of optimism and pessimism:
1. The marginal efficiency of capital is also affected by waves of optimism and pessimism in the business cycle.
2. If businessmen are optimistic about future, the MEC will be likely to be high.
3. During periods of pessimism the MEC is under estimated and so will be low.
(b) Long – Run Factors
The long run factors which influence the marginal efficiency of capital are as follows:
1. Rate of growth of population:
1. Marginal efficiency of capital is also influenced by the rate of growth of population.
2. If population is growing at a rapid speed, it is usually believed that the demand of various types of goods will increase.
3. So a rapid rise in the growth of population will increase the marginal efficiency of capital and a slowing down in its rate of growth will discourage investment and thus reduce marginal efficiency of capital.
2. Technological progress:
1. If investment and technological development take place in the industry, the prospects of increase in the net yield brightens up.
2. For example, the development of automobiles in the 20th century has greatly stimulated the rubber industry, the steel and oil industry etc.
3. So we can say that inventions and technological improvements encourage investment in various projects and increase marginal efficiency of capital.
3. Monetary and Fiscal policies: Cheap money policy and liberal tax policy pave the way for greater profit margin and so MEC is likely to be high.
4. Political environment: Political stability, smooth administration, maintenance of law and order help to improve MEC.
5. Resource availability: Cheap and abundant supply of natural resources, efficient labour and stock of capital enhance the MEC.
