Investment and Hysteresis
It seems that firms behave contrary to the standard economic theory of investment. We observe that firms do not invest as soon a price rises above long-run average cost; instead firms wait until price rises substantially above long-run average cost. On the downside, firms stay in business for lengthy periods while absorbing operating losses, and price can fall substantially below average variable cost without inducing disinvestment or exit. Recent developments in the theory of investment under uncertainty offer an interesting new explanation. The new approach builds on an interesting analogy between real investments and options in financial markets: In the timing of investment, waiting has positive value because time brings more information about the future prospects of a project. This new approach suggests that textbook pictures of the dynamics of a competitive industry need to be substantially redrawn. More generally, it says that a great deal of inertia is optimal when dynamic decisions are being made in an uncertain environment.
Volume (Year): 6 (1992)
Issue (Month): 1 (Winter)
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References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
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3137-90., Massachusetts Institute of Technology (MIT), Sloan School of Management.
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- Samuel Bentolila & Giuseppe Bertola, 1990. "Firing Costs and Labour Demand: How Bad is Eurosclerosis?," Review of Economic Studies, Oxford University Press, vol. 57(3), pages 381-402.
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