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Optimal capital accumulation under price uncertainty and costly reversibility

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  • Alvarez, Luis H.R.

Abstract

We consider the optimal capital accumulation policy of a competitive firm operating in the presence of decreasing returns to scale, price uncertainty, and costly reversibility of investment. We characterize the optimal accumulation policy and derive the value of the firm by focusing on the marginal investment decision and solving the associated optimal timing problem characterizing the option value of the associated opportunity to either disinvest or acquire a marginal unit of capacity. We also characterize the required exercise premia associated with the optimal policies and demonstrate that hysteresis prevails within this class of accumulation problems as well.

Suggested Citation

  • Alvarez, Luis H.R., 2011. "Optimal capital accumulation under price uncertainty and costly reversibility," Journal of Economic Dynamics and Control, Elsevier, vol. 35(10), pages 1769-1788, October.
  • Handle: RePEc:eee:dyncon:v:35:y:2011:i:10:p:1769-1788
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    Cited by:

    1. Xin Guo & Pascal Tomecek, 2008. "Solving Singular Control from Optimal Switching," Asia-Pacific Financial Markets, Springer;Japanese Association of Financial Economics and Engineering, vol. 15(1), pages 25-45, March.
    2. Pekka Matomäki, 2012. "On solvability of a two-sided singular control problem," Mathematical Methods of Operations Research, Springer;Gesellschaft für Operations Research (GOR);Nederlands Genootschap voor Besliskunde (NGB), vol. 76(3), pages 239-271, December.
    3. Andrianos Tsekrekos, 2013. "Irreversible exit decisions under mean-reverting uncertainty," Journal of Economics, Springer, vol. 110(1), pages 5-23, September.
    4. Peter Bank & Helena Kauppila, 2014. "Convex duality for stochastic singular control problems," Papers 1407.7717, arXiv.org.
    5. Hanno Dihle, 2015. "Real Options in a Ramsey style Growth Model," Discussion Paper Series 32, Department of International Economic Policy, University of Freiburg, revised Dec 2015.
    6. repec:spr:compst:v:76:y:2012:i:3:p:239-271 is not listed on IDEAS

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