Michele Moretto (Department of Economics, University of Brescia)
Abstract
This paper examines the effect of competition on the irreversible investment decisions under uncertainty as a generalization of the “real option” approach. We examine this issue with reference to an industry where each firm has only one investment opportunity which is completely irreversible and the product market reveals an inverted U-shape relationship between firm profits and industry size. That is, there are positive externalities for low level of the market size and negative externalities at high level of the market size. In the latter case, which corresponds to the traditional competitive industries, firms invest sequentially as market profitability develops. In the former case, which corresponds to industries in which investments are mutually beneficial, firms invest simultaneously after profitability of the market has developed sufficiently to capture all network benefits and to recover the option value of waiting. Put together, these extensions of the “real option” analysis, with strategic interactions, may help to explain both the cases of rapid and sudden developments such as the recent internet investments and the cases of prolonged start-up problems while waiting for the market to develop as the story of fax machines shows.
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Publisher Info
Paper provided by Fondazione Eni Enrico Mattei in its series Working Papers with number
2003.32.
Find related papers by JEL classification: D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty C73 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Stochastic and Dynamic Games; Evolutionary Games G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing O31 - Economic Development, Technological Change, and Growth - - Technological Change - - - Innovation and Invention: Processes and Incentives
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Michele Moretto & Sergio Vergalli, 2005.
"Migration dynamics,"
Working Papers
ubs0507, University of Brescia, Department of Economics.
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