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Firms' investment decisions in response to demand and price uncertainty

  • Fuss, Catherine
  • Vermeulen, Philip

We estimate the effect of demand and price uncertainty on firms’ investment decisions from a panel of manufacturing firms. Uncertainty measures are derived from firms’ subjective qualitative expectations. They are close to their theoretical counterparts, the variances of future demand and price shocks. We find that demand uncertainty depresses planned and realized investment, while price uncertainty is insignificant. This is consistent with the behavior of monopolistic firms with irreversible capital (Caballero, 1991). Further, firms revise their investment plans very little. They may do so in response to new information on sales growth, but not as a result of reduced uncertainty. JEL Classification: D21, D24, D81, D92, C23

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Paper provided by European Central Bank in its series Working Paper Series with number 0347.

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Date of creation: Apr 2004
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Handle: RePEc:ecb:ecbwps:20040347
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