Irreversibility and Aggregate Investment

Irreversibility and Aggregate Investment PDF

Author: Giuseppe Bertola

Publisher:

Published: 1991

Total Pages: 52

ISBN-13:

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Investment is often irreversible, in that installed capital has little or no value unless used in production. In the presence of ongoing uncertainty, an individual firm's irreversible investment policy optimally alternates short bursts of positive gross investment to periods of inaction, when the installed capital stock is allowed to depreciate. The behavior of aggregate investment series is characterized by sluggish, continuous adjustment instead. We argue in this paper that aggregate dynamics should be interpreted in terms of unsynchronized irreversible investment decisions by heterogenous firms, rather than in terms of ad-hoc adjustment cost functions in a representative-agent framework. We propose a closed-form solution for a realistic model of sequential irreversible investment, characterize the aggregate implications of microeconomic irreversibility and idiosyncratic uncertainty, and interpret U.S. data in light of the theoretical results.

Irreversibility, Uncertainty, and Investment

Irreversibility, Uncertainty, and Investment PDF

Author: Robert S. Pindyck

Publisher: World Bank Publications

Published: 1989

Total Pages: 58

ISBN-13:

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Irreversible investment is especially sensitive to such risk factors as volatile exchange rates and uncertainty about tariff structures and future cash flows. If the goal of macroeconomic policy is to stimulate investment, stability and credibility may be more important than tax incentives or interest rates.

Aggregate Investment

Aggregate Investment PDF

Author: Ricardo J. Caballero

Publisher:

Published: 1997

Total Pages: 82

ISBN-13:

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The 90s have witnessed a revival in economists' interest and hope of explaining" aggregate and microeconomic investment behavior. New theories, better econometric" procedures, and more detailed panel data sets are behind this movement. Much of the progress" has occurred at the level of microeconomic theories and evidence; however aggregation and general equilibrium aspects of the investment problem also has been significant." The concept of sunk costs is at the center of modern theories. The implications of these costs for" investment go well beyond the neoclassical response to the irreversible-technological friction" they represent, for they can also lead to first order inefficiencies when interacting with" informational and contractual problems

Real Estate and the Economy

Real Estate and the Economy PDF

Author: Robert Novy-Marx

Publisher:

Published: 2007

Total Pages: 66

ISBN-13:

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While significant effort has been devoted to characterizing the role that irreversibility plays in individual agents' investment behavior, very little has been devoted to the aggregate economic implications of investment irreversibility. Yet irreversibility prevents the continual allocation of capital to its most productive use, with first-order economic consequences. Moreover, the asymmetric nature of the friction, which prevents disinvestment in bad times but allows investment in good times, means its impact varies over the business cycle. In order to study the aggregate effects of irreversibility, this paper introduces a general equilibrium model with two consumption goods and irreversible investment. After characterizing the optimal investment strategy of competitive heterogeneous developers, we show that this behavior endogenously generates a business cycle: periods of more intensive real estate development are associated with greater consumption growth, even when fundamental shocks are stationary. We also consider an array of business cycle-dependent macroeconomic implications, including the impact of irreversibility on the term structures of interest rates and interest rate volatility, consumption risk premia, forward prices and forward price volatilities, and the expected returns to real assets. Finally, we consider the role that irreversibility plays in both the time-series and cross-section of investment, generating quot;lumpyquot; investment at the firm level and heterogeneity across firms. There is less heterogeneity, in equilibrium, than is socially optimal. Competitive pressures drive developers to build too soon, and consequently on too small a scale, to efficiently utilize resources diverted to the housing sector.

Irreversibility, Uncertainty, and Cyclical Investment

Irreversibility, Uncertainty, and Cyclical Investment PDF

Author: Ben Bernanke

Publisher:

Published: 1980

Total Pages: 24

ISBN-13:

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The optimal timing of real investment is studied under the assumptions that investment is irreversible and that new information about returns is arriving over time. Investment should be undertaken in this case only when the costs of deferring the project exceed the expected value of information gained by waiting. Uncertainty, because it increases the value of waiting for new information, retards the current rate of investment. The nature of investor's optimal reactions to events whose implications are resolved over time is a possible explanation of the instability of aggregate investment over the business cycle

Economic Instability and Aggregate Investment

Economic Instability and Aggregate Investment PDF

Author: Robert S. Pindyck

Publisher:

Published: 1993

Total Pages: 36

ISBN-13:

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Using the irreversibility approach to investment, a robust, negative relationship between inflation and capital formation is found for high- inflation countries in Latin America and for low- inflation economies in the OECD.

Investment under Uncertainty

Investment under Uncertainty PDF

Author: Robert K. Dixit

Publisher: Princeton University Press

Published: 2012-07-14

Total Pages: 484

ISBN-13: 1400830176

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How should firms decide whether and when to invest in new capital equipment, additions to their workforce, or the development of new products? Why have traditional economic models of investment failed to explain the behavior of investment spending in the United States and other countries? In this book, Avinash Dixit and Robert Pindyck provide the first detailed exposition of a new theoretical approach to the capital investment decisions of firms, stressing the irreversibility of most investment decisions, and the ongoing uncertainty of the economic environment in which these decisions are made. In so doing, they answer important questions about investment decisions and the behavior of investment spending. This new approach to investment recognizes the option value of waiting for better (but never complete) information. It exploits an analogy with the theory of options in financial markets, which permits a much richer dynamic framework than was possible with the traditional theory of investment. The authors present the new theory in a clear and systematic way, and consolidate, synthesize, and extend the various strands of research that have come out of the theory. Their book shows the importance of the theory for understanding investment behavior of firms; develops the implications of this theory for industry dynamics and for government policy concerning investment; and shows how the theory can be applied to specific industries and to a wide variety of business problems.

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