Expropriation Risk, Investment Decisions and Economic Sectors
32 Pages Posted: 28 Aug 2014
Date Written: August 15, 2014
We build a Real Options model to assess the importance of private provision and the impact of expropriation risk on investment timing, investment volumes, governmental costs and social welfare. We consider two types of businesses (essential and non essential businesses) and two stages (operating and investment opportunities), and answer questions regarding three main topics: the firm's reaction to expropriation risk, the government drivers to expropriate, and the costs this generates in terms of welfare. We find that the firm makes suboptimal investment decisions. When we endogenize the reputational costs of expropriation, results show that the decision of the government regarding the level of political risk will largely depend on the type of business. However, in terms of welfare it is never optimal to expropriate.
Keywords: Expropriation risk, Expropriation Option, Investment option, Abandonment option, Costs of expropriation
JEL Classification: H80, G38
Suggested Citation: Suggested Citation