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Damned If You Do, Damned If You Don't: An Option Value Approach to Evaluating the Subsidy of the CPR Mainline

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  • J. C. Herbert Emery
  • Kenneth J. McKenzie

Abstract

We revisit the 'excess subsidy' granted to the CPR for the first transcontinental railway in 1881. Previous studies have evaluated the subsidy from an ex post perspective, and concluded that it was 'too large.' We argue that the subsidy should be evaluated from an ex ante perspective, which explicitly accounts for uncertainty. Using an option value approach, which takes account of the risk and irreversibility of the investment, we show that it is likely that the subsidy was not excessive at all, but rather was required to compensate the CPR for forgoing the option to construct the line at the privately optimal time in the future.

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Bibliographic Info

Article provided by Canadian Economics Association in its journal Canadian Journal of Economics.

Volume (Year): 29 (1996)
Issue (Month): 2 (May)
Pages: 255-70

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Handle: RePEc:cje:issued:v:29:y:1996:i:2:p:255-70

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Postal: Canadian Economics Association Prof. Steven Ambler, Secretary-Treasurer c/o Olivier Lebert, CEA/CJE/CPP Office C.P. 35006, 1221 Fleury Est Montréal, Québec, Canada H2C 3K4
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Cited by:
  1. Machiel Mulder & Gijsbert Zwart, 2006. "Government involvement in liberalised gas markets; a welfare-economic analysis of Dutch gas-depletion policy," CPB Document 110, CPB Netherlands Bureau for Economic Policy Analysis.
  2. Viju, Crina & Kerr, William A., 2013. "Taking an option on the future: Subsidizing biofuels for energy security or reducing global warming," Energy Policy, Elsevier, vol. 56(C), pages 543-548.

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