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Modelling investment when relative prices are trending: theory and evidence for the United Kingdom

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  • Hasan Bakhshi
  • Nicholas Oulton
  • Jamie Thompson

Abstract

In recent work, Stacey Tevlin and Karl Whelan argue that aggregate econometric models fail to capture the US investment boom in plant and machinery in the second half of the 1990s, whereas a disaggregated approach does much better. In particular, they show that aggregate models do not capture the increase in replacement investment associated with compositional shifts in the capital stock towards high depreciation rate assets, such as computers. And aggregate models invariably find little or no role for the real user cost, so do not pick up the strong effects of relative price declines on investment in computers. In this paper, a data set for the United Kingdom is constructed in order to investigate the ability of different equations to account for the UK boom in plant and machinery investment in the second half of the 1990s. The findings are similar to those of Tevlin and Whelan, whose analysis is extended in two main ways. First, the failure of the aggregate equations is explained more formally in terms of misspecification when relative prices are trending downwards. Second, the econometric analysis is conducted in a formal cointegration framework. As in the United States, the paper shows that asset-level equations can explain the investment boom in plant and machinery in the second half of the 1990s in the United Kingdom, whereas the aggregate equation fails completely.

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Paper provided by Bank of England in its series Bank of England working papers with number 189.

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Date of creation: May 2003
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Handle: RePEc:boe:boeewp:189

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  1. repec:cup:etheor:v:7:y:1991:i:1:p:1-21 is not listed on IDEAS
  2. Banerjee, Anindya, et al, 1986. "Exploring Equilibrium Relationships in Econometrics through Static Models: Some Monte Carlo Evidence," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 48(3), pages 253-77, August.
  3. Saikkonen, Pentti, 1991. "Asymptotically Efficient Estimation of Cointegration Regressions," Econometric Theory, Cambridge University Press, Cambridge University Press, vol. 7(01), pages 1-21, March.
  4. Tevlin, Stacey & Whelan, Karl, 2003. " Explaining the Investment Boom of the 1990s," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 35(1), pages 1-22, February.
  5. Caballero, Ricardo J., 1999. "Aggregate investment," Handbook of Macroeconomics, Elsevier, in: J. B. Taylor & M. Woodford (ed.), Handbook of Macroeconomics, edition 1, volume 1, chapter 12, pages 813-862 Elsevier.
  6. Nicholas Oulton, 2001. "ICT and productivity growth in the United Kingdom," Bank of England working papers, Bank of England 140, Bank of England.
  7. Caballero, Ricardo J, 1994. "Small Sample Bias and Adjustment Costs," The Review of Economics and Statistics, MIT Press, vol. 76(1), pages 52-58, February.
  8. Stephen Bond & Alexander Klemm & Rain Newton-Smith & Murtaza Syed & Gertjan Vlieghe, 2004. "The roles of expected profitability, Tobin's Q and cash flow in econometric models of company investment," Bank of England working papers, Bank of England 222, Bank of England.
  9. Stock, James H & Watson, Mark W, 1993. "A Simple Estimator of Cointegrating Vectors in Higher Order Integrated Systems," Econometrica, Econometric Society, Econometric Society, vol. 61(4), pages 783-820, July.
  10. Greenwood, J. & Hercowitz, Z. & Krusell, P., 1995. "Long-Run Implications of Investment-Specific Technological Change," UWO Department of Economics Working Papers, University of Western Ontario, Department of Economics 9510, University of Western Ontario, Department of Economics.
  11. Stephen Oliner & Glenn Rudebusch & Daniel Sichel, 1993. "New and old models of business investment: a comparison of forecasting performance," Working Paper Series / Economic Activity Section, Board of Governors of the Federal Reserve System (U.S.) 141, Board of Governors of the Federal Reserve System (U.S.).
  12. Hasan Bakhshi & Jens Larsen, 2001. "Investment-specific technological progress in the United Kingdom," Bank of England working papers, Bank of England 129, Bank of England.
  13. Chow, Gregory C & Lin, An-loh, 1971. "Best Linear Unbiased Interpolation, Distribution, and Extrapolation of Time Series by Related Series," The Review of Economics and Statistics, MIT Press, vol. 53(4), pages 372-75, November.
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Cited by:
  1. Simon Price, 2004. "UK investment and the return to equity: Q redux," Money Macro and Finance (MMF) Research Group Conference 2004, Money Macro and Finance Research Group 87, Money Macro and Finance Research Group.
  2. Susanto Basu & John G. Fernald & Nicholas Oulton & Sylaja Srinivasan, 2003. "The Case of the Missing Productivity Growth: Or, Does Information Technology Explain why Productivity Accelerated in the US but not the UK?," NBER Working Papers 10010, National Bureau of Economic Research, Inc.
  3. Susanto Basu & John Fernald, 2006. "Information and communications technology as a general-purpose technology: evidence from U.S industry data," Working Paper Series, Federal Reserve Bank of San Francisco 2006-29, Federal Reserve Bank of San Francisco.
  4. Michael McMahon & Gabriel Sterne & Jamie Thompson, 2005. "The role of ICT in the global investment cycle," Bank of England working papers, Bank of England 257, Bank of England.
  5. Colin Ellis & Simon Price, 2003. "UK business investment: long-run elasticities and short-run dynamics," Bank of England working papers, Bank of England 196, Bank of England.
  6. Susanto Basu & John G. Fernald & Nicholas Oulton & Sylaja Srinivasan, 2003. "The case of the missing productivity growth: or, does information technology explain why productivity accelerated in the United States but not the United Kingdom?," Working Paper Series, Federal Reserve Bank of Chicago WP-03-08, Federal Reserve Bank of Chicago.
  7. Shaun K. Roache, 2006. "Domestic Investment and the Cost of Capital in the Caribbean," IMF Working Papers 06/152, International Monetary Fund.
  8. Robert S. Chirinko, 2008. "ó: The Long And Short Of It," CESifo Working Paper Series 2234, CESifo Group Munich.
  9. Shaun K. Roache, 2006. "Domestic Investment and the Cost of Capital in the Caribbean," Applied Econometrics and International Development, Euro-American Association of Economic Development, Euro-American Association of Economic Development, vol. 6(3).

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