TESTING THE OPTION VALUE THEORY OF IRREVERSIBLE INVESTMENT
Article Abstract:
This article statistically tests the option theory of irreversible investment. Using contingent claims valuation, we derive the value of options to invest in capacity, where the projects are endogenous to the economic circumstances prevailing at the investment date. We then test whether decisions made by Canadian copper mines are compatible with the trigger price implied by the theory. Our model explains investment size and timing satisfactorily from a statistical and an economic point of view; simulations with a mean-reverting process suggest that the results do not depend crucially on the assumption that price follows a geometric Brownian motion.
Publication Name: International Economic Review
Subject: Economics
ISSN: 0020-6598
Year: 2001
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CONSUMERS' SURPLUS AS AN EXACT AND SUPERLATIVE CARDINAL WELFARE INDICATOR
Article Abstract:
This article shows that the Bennet-Bowley consumer surplus measure is an exact measure of Allais' disposable surplus if the consumer's utility function is of the translation-homothetic generalized quadratic form. The Bennet-Bowley consumer surplus measure, therefore, is a superlative cardinal welfare measure for the entire class of translation homothetic preferences. Because the exactness results in this article apply for cardinal welfare measures, they can be meaningfully aggregated across consumers to make aggregate welfare comparisons.
Publication Name: International Economic Review
Subject: Economics
ISSN: 0020-6598
Year: 2001
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