Investment Options and the Business Cycle

50 Pages Posted: 10 Aug 2007 Last revised: 13 May 2021

See all articles by Boyan Jovanovic

Boyan Jovanovic

New York University - Department of Economics

Date Written: August 2007

Abstract

This paper extends Lucas (1978) to a production economy with two capital goods. It is an RBC model in which each unit of investment requires a new idea, an "option". When options are scarce, new capital is harder to put in place and the value of old capital rises. Thus the stock market and Tobin's Q are negative indexes of intangibles. During a boom, Q rises gradually, as options are used up. Because investment represents an exercise of options, it has an intertemporal substitution tradeoff that is absent in the adjustment-cost model. Equilibrium may be efficient even without markets for knowledge; the stock market may suffice.

Suggested Citation

Jovanovic, Boyan, Investment Options and the Business Cycle (August 2007). NBER Working Paper No. w13307, Available at SSRN: https://ssrn.com/abstract=1005909

Boyan Jovanovic (Contact Author)

New York University - Department of Economics ( email )

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