Damned If You Do, Damned If You Don't: An Option Value Approach to Evaluating the Subsidy of the CPR Mainline

John Emery and Kenneth McKenzie

Canadian Journal of Economics, 1996, vol. 29, issue 2, 255-70

Abstract: We revisit the 'excess subsidy' granted to the CPR for the first transcontinental railway in 1881. Previous studies have evaluated the subsidy from an ex post perspective, and concluded that it was 'too large.' We argue that the subsidy should be evaluated from an ex ante perspective, which explicitly accounts for uncertainty. Using an option value approach, which takes account of the risk and irreversibility of the investment, we show that it is likely that the subsidy was not excessive at all, but rather was required to compensate the CPR for forgoing the option to construct the line at the privately optimal time in the future.

Date: 1996
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