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The Role of a Variable Input in the Relationship between Investment and Uncertainty

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  • Kwanho Shin
  • Jaewoo Lee

Abstract

Caballero (1991) shows that a larger uncertainty only increases the investment of a perfectly competitive firm with a constant returns to scale technology. We show, however, that the option value generated by a one-time fixed cost can cause the increasing uncertainty to reduce investment from a positive value to zero.

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File URL: http://www.aeaweb.org/articles.php?doi=10.1257/aer.90.3.667
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Bibliographic Info

Article provided by American Economic Association in its journal American Economic Review.

Volume (Year): 90 (2000)
Issue (Month): 3 (June)
Pages: 667-680

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Handle: RePEc:aea:aecrev:v:90:y:2000:i:3:p:667-680

Note: DOI: 10.1257/aer.90.3.667
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References

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  1. Abel, Andrew B, 1983. "Optimal Investment under Uncertainty," American Economic Review, American Economic Association, vol. 73(1), pages 228-33, March.
  2. Pindyck, Robert S, 1988. "Irreversible Investment, Capacity Choice, and the Value of the Firm," American Economic Review, American Economic Association, vol. 78(5), pages 969-85, December.
  3. Cabalero, R.J., 1997. "Aggregaete Investment," Working papers 97-20, Massachusetts Institute of Technology (MIT), Department of Economics.
  4. Rothschild, Michael & Stiglitz, Joseph E., 1970. "Increasing risk: I. A definition," Journal of Economic Theory, Elsevier, vol. 2(3), pages 225-243, September.
  5. Abel, Andrew B & Eberly, Janice C, 1994. "A Unified Model of Investment under Uncertainty," American Economic Review, American Economic Association, vol. 84(5), pages 1369-84, December.
  6. McDonald, Robert & Siegel, Daniel, 1986. "The Value of Waiting to Invest," The Quarterly Journal of Economics, MIT Press, vol. 101(4), pages 707-27, November.
  7. Hartman, Richard, 1972. "The effects of price and cost uncertainty on investment," Journal of Economic Theory, Elsevier, vol. 5(2), pages 258-266, October.
  8. Sakellaris, Plutarchos, 1994. "A Note on Competitive Investment under Uncertainty: Comment," American Economic Review, American Economic Association, vol. 84(4), pages 1107-12, September.
  9. Caballero, Ricardo J, 1991. "On the Sign of the Investment-Uncertainty Relationship," American Economic Review, American Economic Association, vol. 81(1), pages 279-88, March.
  10. Ricardo J. Caballero & Eduardo M. R. A. Engel & John C. Haltiwanger, 1995. "Plant-Level Adjustment and Aggregate Investment Dynamics," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 26(2), pages 1-54.
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Citations

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Cited by:
  1. Bayraktar, Nihal & Fofack, Hippolyte, 2007. "Specification of investment functions in Sub-Saharan Africa," Policy Research Working Paper Series 4171, The World Bank.
  2. Gil, Pedro Mazeda, 2012. "Investment under uncertainty: The nature of demand shocks and the expected profitability of capital," Economics Letters, Elsevier, vol. 114(2), pages 154-156.
  3. Serven, Luis, 2002. "Real exchange rate uncertainty and private investment in developing countries," Policy Research Working Paper Series 2823, The World Bank.
  4. Hagspiel, V., 2011. "Flexibility in technology choice: A real options approach," Open Access publications from Tilburg University urn:nbn:nl:ui:12-5258278, Tilburg University.
  5. Drakos, Konstantinos & Goulas, Eleftherios, 2006. "Investment and conditional uncertainty: The role of market power, irreversibility, and returns-to-scale," Economics Letters, Elsevier, vol. 93(2), pages 169-175, November.
  6. Sunil Kanwar, 2006. "Innovation and Intellectual Property Rights," Working papers 142, Centre for Development Economics, Delhi School of Economics.
  7. Bontempi, Maria Elena & Golinelli, Roberto & Parigi, Giuseppe, 2010. "Why demand uncertainty curbs investment: Evidence from a panel of Italian manufacturing firms," Journal of Macroeconomics, Elsevier, vol. 32(1), pages 218-238, March.
  8. Nicholas Bloom, 2000. "The dynamic effects of real options and irreversibility on investment and labour demand," IFS Working Papers W00/15, Institute for Fiscal Studies.
  9. Gianluca Femminis, 2012. "Risk aversion heterogeneity and the investment-uncertainty relationship," DISCE - Quaderni dell'Istituto di Teoria Economica e Metodi Quantitativi itemq1260, UniversitĂ  Cattolica del Sacro Cuore, Dipartimenti e Istituti di Scienze Economiche (DISCE).
  10. Gyan Pradhan & Zeljan Schuster & Kamal Upadhyaya, 2004. "Exchange rate uncertainty and the level of investment in selected South-east Asian countries," Applied Economics, Taylor & Francis Journals, vol. 36(19), pages 2161-2165.
  11. Magda Bianco & Maria Bontempi & Roberto Golinelli & Giuseppe Parigi, 2013. "Family firms’ investments, uncertainty and opacity," Small Business Economics, Springer, vol. 40(4), pages 1035-1058, May.
  12. Joseph P. Byrne & E. Philip Davis, 2005. "Investment and Uncertainty in the G7," Review of World Economics (Weltwirtschaftliches Archiv), Springer, vol. 141(1), pages 1-32, April.

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