Uncertainty and Investment Dynamics

44 Pages Posted: 14 Sep 2006 Last revised: 12 Jan 2014

See all articles by Nicholas Bloom

Nicholas Bloom

Stanford University - Department of Economics; National Bureau of Economic Research (NBER)

Stephen R. Bond

Nuffield College; Institute for Fiscal Studies (IFS)

John Van Reenen

London School of Economics - Centre for Economic Performance (CEP); Stanford Graduate School of Business; Institute for Fiscal Studies (IFS); Centre for Economic Policy Research (CEPR)

Date Written: July 2006

Abstract

This paper shows that, with (partial) irreversibility, higher uncertainty reduces the impact effect of demand shocks on investment. Uncertainty increases real option values making firms more cautious when investing or disinvesting. This is confirmed both numerically for a model with a rich mix of adjustment costs, time-varying uncertainty, and aggregation over investment decisions and time, and also empirically for a panel of manufacturing firms. These cautionary effects of uncertainty are large %u2013 going from the lower quartile to the upper quartile of the uncertainty distribution typically halves the first year investment response to demand shocks. This implies the responsiveness of firms to any given policy stimulus may be much lower in periods of high uncertainty, such as after major shocks like OPEC I and 9/11.

Suggested Citation

Bloom, Nicholas and Bond, Stephen R. and Van Reenen, John Michael, Uncertainty and Investment Dynamics (July 2006). NBER Working Paper No. w12383. Available at SSRN: https://ssrn.com/abstract=921549

Nicholas Bloom (Contact Author)

Stanford University - Department of Economics ( email )

Landau Economics Building, Room 231
579 Serra Mall
Stanford, CA 94305-6072
United States
650-725-7836 (Phone)

HOME PAGE: http://economics.stanford.edu/faculty/bloom

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Stephen R. Bond

Nuffield College ( email )

Manor Road Building
Manor Road
Oxford, OX1 3BJ
United Kingdom
+44 1865 278 674 (Phone)
+44 1865 278 621 (Fax)

Institute for Fiscal Studies (IFS)

7 Ridgmount Street
London, WC1E 7AE
United Kingdom
+44 20 7291 4800 (Phone)
+44 20 7323 4780 (Fax)

John Michael Van Reenen

London School of Economics - Centre for Economic Performance (CEP) ( email )

Houghton Street
London WC2A 2AE
United Kingdom
+44 20 7955 6976 (Phone)
+44 20 7955 6848 (Fax)

Stanford Graduate School of Business ( email )

655 Knight Way
Stanford, CA 94305-5015
United States

Institute for Fiscal Studies (IFS) ( email )

7 Ridgmount Street
London, WC1E 7AE
United Kingdom
+44 20 7240 6740 (Phone)
+44 20 7240 6136 (Fax)

Centre for Economic Policy Research (CEPR)

London
United Kingdom

Register to save articles to
your library

Register

Paper statistics

Downloads
71
Abstract Views
1,559
rank
327,008
PlumX Metrics