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Uncertainty and the trade-off between scale and flexibility in investment

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  • Guthrie, Graeme

Abstract

This paper analyzes the behavior of a firm that chooses both the scale and timing of its investment. Sensitivity analysis shows that greater demand volatility is associated with the firm investing in larger increments, less frequently. This is in contrast to the conventional wisdom, which is that greater volatility leads to investment in smaller increments, more frequently. Overall, the reduced frequency dominates the greater scale, so that the long-run average rate of investment is a decreasing function of demand volatility. The timing and scale of investment are most sensitive to volatility when there are substantial investment economies of scale.

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Bibliographic Info

Article provided by Elsevier in its journal Journal of Economic Dynamics and Control.

Volume (Year): 36 (2012)
Issue (Month): 11 ()
Pages: 1718-1728

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Handle: RePEc:eee:dyncon:v:36:y:2012:i:11:p:1718-1728

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Web page: http://www.elsevier.com/locate/jedc

Related research

Keywords: Investment; Uncertainty; Real options; Economies of scale;

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References

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  13. Lewis Evans & Graeme Guthrie, 2012. "Price-cap regulation and the scale and timing of investment," RAND Journal of Economics, RAND Corporation, vol. 43(3), pages 537-561, 09.
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  16. Guthrie, Graeme, 2010. "House prices, development costs, and the value of waiting," Journal of Urban Economics, Elsevier, vol. 68(1), pages 56-71, July.
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Cited by:
  1. Guthrie, Graeme, 2013. "A value premium without operating leverage," Finance Research Letters, Elsevier, vol. 10(1), pages 1-11.

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