Modelling Investment When Relative Prices are Trending: Theory and Evidence for the United Kingdom

Bank of England Working Paper No. 189

36 Pages Posted: 4 Sep 2003

See all articles by Hasan Bakhshi

Hasan Bakhshi

Bank of England - Monetary Analysis

Nicholas Oulton

London School of Economics - Centre for Macroeconomics(CFM)

Jamie N.R. Thompson

Bank of England

Date Written: 2003

Abstract

In recent work, Stacey Tevlin and Karl Whelan argue that aggregate econometric models fail to capture the US investment boom in plant and machinery in the second half of the 1990s, whereas a disaggregated approach does much better. In particular, they show that aggregate models do not capture the increase in replacement investment associated with compositional shifts in the capital stock towards high depreciation rate assets, such as computers. And aggregate models invariably find little or no role for the real user cost, so do not pick up the strong effects of relative price declines on investment in computers. In this paper, a data set for the United Kingdom is constructed in order to investigate the ability of different equations to account for the UK boom in plant and machinery investment in the second half of the 1990s. The findings are similar to those of Tevlin and Whelan, whose analysis is extended in two main ways. First, the failure of the aggregate equations is explained more formally in terms of misspecification when relative prices are trending downwards. Second, the econometric analysis is conducted in a formal cointegration framework. As in the United States, the paper shows that asset-level equations can explain the investment boom in plant and machinery in the second half of the 1990s in the United Kingdom, whereas the aggregate equation fails completely.

Keywords: Investment, computers, relative prices

JEL Classification: C51, E22

Suggested Citation

Bakhshi, Hasan and Oulton, Nicholas and Thompson, Jamie N.R., Modelling Investment When Relative Prices are Trending: Theory and Evidence for the United Kingdom (2003). Bank of England Working Paper No. 189, Available at SSRN: https://ssrn.com/abstract=425800 or http://dx.doi.org/10.2139/ssrn.425800

Hasan Bakhshi

Bank of England - Monetary Analysis ( email )

Threadneedle Street
London EC2R 8AH
United Kingdom
020 7601 5996 (Phone)

Nicholas Oulton

London School of Economics - Centre for Macroeconomics(CFM) ( email )

Houghton Street
London WC2A 2AE
United Kingdom

HOME PAGE: http://https://ideas.repec.org/e/pou3.html

Jamie N.R. Thompson (Contact Author)

Bank of England ( email )

Threadneedle Street
London, EC2R 8AH
United Kingdom

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