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Irreversible investment and industry equilibrium (*)

Author

Listed:
  • Ioannis Karatzas

    () (Departments of Mathematics and Statistics, Columbia University, New York, N.Y. 10027, USA)

  • Fridrik M. Baldursson

    () (National Economic Institute and the Institute of Economic Studies, University of Iceland, Kalkofnsvegur 1, IS-150 Reykjavik, Iceland)

Abstract

We establish the equivalence of competitive industry equilibrium with a central planner's decision problem under uncertainty, when investment is irreversible. The existence of industry equilibrium is derived, and it is shown that myopic behavior on the part of small agents is harmless, in the sense that it leads to the same decisions as full rational expectations do. Our model is set in continuous time and allows for very general forms of randomness. The methods are based on the probabilistic approach to singular stochastic control theory and its connections with optimal stopping problems.

Suggested Citation

  • Ioannis Karatzas & Fridrik M. Baldursson, 1996. "Irreversible investment and industry equilibrium (*)," Finance and Stochastics, Springer, vol. 1(1), pages 69-89.
  • Handle: RePEc:spr:finsto:v:1:y:1996:i:1:p:69-89
    Note: received: April 1996; final version received: September 1996
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    More about this item

    Keywords

    Irreversible investment under uncertainty; industry equilibrium; optimality of myopic decisions; singular stochastic control; optimal stopping;

    JEL classification:

    • E22 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Investment; Capital; Intangible Capital; Capacity
    • D92 - Microeconomics - - Micro-Based Behavioral Economics - - - Intertemporal Firm Choice, Investment, Capacity, and Financing
    • G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Fixed Investment and Inventory Studies

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