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High Heterogeneous Information and Investment under Uncertainty

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A sudden change in investment environment shifts objective uncertainty (characterized by parameters that determine the distribution of returns) and at the same time heightens subjective uncertainty (about the data generating parameters) unevenly across investors. For a given state of economy, the uncertainty facing the investor is the sum of the uncertainty in the data and the uncertainty of the investors assessment of the expected return distribution. In this model the option value of waiting to invest depends not only on the objective uncertainty as in the traditional theory but varies systematically with investor information and Bayesian updating of outlook for the project. Simulation of the model suggests that during a state characterized by greater uncertainty and higher potential expected return investment will be by an abnormally high percentage of informed investors and may increase overall. For over 10,000 instances of firm-level FDI data for Korea from 1996 to 2001, regression results are consistent with the hypothesis that disproportionably more FDI is made by experienced (hence more informed) investors during heightened uncertainty.

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File URL: http://economics.missouri.edu/working-papers/2007/wp0709_ratti_ni.pdf
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Bibliographic Info

Paper provided by Department of Economics, University of Missouri in its series Working Papers with number 0709.

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Length: 35 pgs.
Date of creation: 15 May 2007
Date of revision:
Handle: RePEc:umc:wpaper:0709

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Keywords: uncertainty; investor information; option value; Bayesian updating; FDI;

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