Firms' Investment Decisions in Response to Demand and Price Uncertainty
National Bank of Belgium Working Paper No. 45
33 Pages Posted: 14 Oct 2010
Date Written: April 2004
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.
Keywords: investment, uncertainty, real options, survey data, panel data
JEL Classification: D21, D24, D81, D92, C23
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