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A note on uncertainty and investment across the spectrum of irreversibility

  • Konstantinos Drakos

There is a lack of consensus regarding the sign of the uncertainty-investment relationship, with a strand of the literature suggesting a positive sign, and the Real Options Theory (ROT) advocating a negative relationship. As a way of testing the ROT, this paper empirically investigates its main prediction that the negative effect of uncertainty on investment is an increasing function of the degree of irreversibility. Empirical results provide support for the ROT since uncertainty is found to exert a higher impact on investment spending across the irreversibility spectrum.

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Article provided by Taylor & Francis Journals in its journal Applied Economics Letters.

Volume (Year): 13 (2006)
Issue (Month): 13 ()
Pages: 873-876

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Handle: RePEc:taf:apeclt:v:13:y:2006:i:13:p:873-876
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  1. Alessandra Del Boca & Marzio Galeotti & Paola Rota, 2002. "Non-convexities in the adjustment of different capital inputs: a firm-level investigation," Working Papers (-2012) 0203, University of Bergamo, Department of Economics.
  2. Driver, Ciaran & Temple, Paul & Urga, Giovanni, 2006. "Contrasts Between Types of Assets in Fixed Investment Equations as a Way of Testing Real Options Theory," Journal of Business & Economic Statistics, American Statistical Association, vol. 24, pages 432-443, October.
  3. Vivek Ghosal & Prakash Loungani, 1995. "Product market competition and the impact of price uncertainty on investment: some evidence from U.S. manufacturing industries," International Finance Discussion Papers 517, Board of Governors of the Federal Reserve System (U.S.).
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  8. Asplund, Marcus, 2000. "What Fraction of a Capital Investment Is Sunk Costs?," Journal of Industrial Economics, Wiley Blackwell, vol. 48(3), pages 287-304, September.
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  10. Henley, Andrew & Carruth, Alan & Dickerson, Andy, 2003. "Industry-wide versus firm-specific uncertainty and investment: British company panel data evidence," Economics Letters, Elsevier, vol. 78(1), pages 87-92, January.
  11. Abel, Andrew B, 1983. "Optimal Investment under Uncertainty," American Economic Review, American Economic Association, vol. 73(1), pages 228-33, March.
  12. Andrew B. Abel & Avinash K. Dixit & Janice C. Eberly & Robert S. Pindyck, 1995. "Options, the Value of Capital, and Investment," NBER Working Papers 5227, National Bureau of Economic Research, Inc.
  13. Elizabeth Webster, 2002. "Intangible and Intellectual Capital: A Review of the Literature," Melbourne Institute Working Paper Series wp2002n10, Melbourne Institute of Applied Economic and Social Research, The University of Melbourne.
  14. Valerie A. Ramey & Matthew D. Shapiro, 2001. "Displaced Capital: A Study of Aerospace Plant Closings," Journal of Political Economy, University of Chicago Press, vol. 109(5), pages 958-992, October.
  15. Ciaran Driver & Katsushi Imai & Paul Temple & Giovanni Urga, 2002. "Contrasts between classes of assets in fixed investment panel equations as a way of testing real option theory," 10th International Conference on Panel Data, Berlin, July 5-6, 2002 B3-3, International Conferences on Panel Data.
  16. Goel, Rajeev K & Ram, Rati, 1999. "Variations in the Effect of Uncertainty on Different Types of Investment: An Empirical Investigation," Australian Economic Papers, Wiley Blackwell, vol. 38(4), pages 481-92, December.
  17. Pindyck, Robert S, 1988. "Irreversible Investment, Capacity Choice, and the Value of the Firm," American Economic Review, American Economic Association, vol. 78(5), pages 969-85, December.
  18. Vivek Ghosal & Prakash Loungani, 2000. "The Differential Impact of Uncertainty on Investment in Small and Large Businesses," The Review of Economics and Statistics, MIT Press, vol. 82(2), pages 338-343, May.
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