THE THEORY OF INTEREST

§7. Other Similar Illustrations

Both the preceding examples, one of intensive agricul-ture and the other of forest cutting, involve (1) an im-mediate cost and (2) a return one year later, thus reduc-ing the marginal rate of return over cost to such simplecalculations as (105 — 100) -j- 100 = 5 per cent.

We may vary the illustration indefinitely and still pre-serve this elementary simplicity. A merchant has alwaysbefore him an indefinite number of possible income-streams from which to choose. As in the case of the landcultivation and the forest cutting we may simplify hischoice by supposing successive doses of costs of $100,each spent on more or better machinery, more or betterworkmen, more or better advertising, more or bettersupervision, and so forth, each $100 cost being immediate,and then supposing the returns to these successive dosesof invested cost to come respectively one year later andto be respectively, say, $140, $130, $115, $106, $105, $104;so that the excess of return over the cost will be respec-tively $40, $30, $15, $6, $5, $4. Thus the rate of returnover cost will be respectively 40, 30, 15, 6, 5, and 4 percent. The enterpriser will incur the costs as long asthe rate of return over these costs is greater than themarket rate of interest. In this case, therefore, he willstop at 5 per cent if the market rate of interest is 5per cent. Again we have ($105 — $100) $100 = 5 per

cent.

In practice, however, we seldom, if ever, have suchsimplicity in calculating the rate of return over cost andthere are innumerable other types of contrast between thesuccessive income streams which may be at the same timeunder consideration by the investor.

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