Uncertainty, Investment, and Industry Evolution

Ricardo Caballero () and Robert Pindyck

International Economic Review, 1996, vol. 37, issue 3, 641-62

Abstract: The authors study the effects of industrywide and idiosyncratic uncertainty on the entry of firms, total investment, and prices in a competitive industry with irreversible investment. They determine entry decisions and the resulting industry equilibrium and its characteristics, emphasizing effects of different sources of uncertainty. The authors stress how irreversibility affects the equilibrium distribution of prices, which in turn affects entry. Finally, they use four-digit U.S. manufacturing data to measure the extent of uncertainty and gauge its importance for investment. The authors find that a doubling of industrywide uncertainty raises the required rate of return on new capital by about 20 percent. Copyright 1996 by Economics Department of the University of Pennsylvania and the Osaka University Institute of Social and Economic Research Association.

Date: 1996
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Working Paper: Uncertainty, investment, and industry evolution (1992)
Working Paper: Uncertainty, Investment, and Industry Evolution (1992)
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