Investment Under Uncertainty: Theory and Tests with Industry Data

39 Pages Posted: 3 Jul 2007 Last revised: 10 Sep 2022

See all articles by Robert E. Hall

Robert E. Hall

Hoover Institution and Department of Economics, Stanford University; National Bureau of Economic Research (NBER)

Date Written: May 1987

Abstract

Under the assumption of constant returns to scale, there is a very simple, easily testable condition for optimal investment under uncertainty. Application of the test requires no parametric assumptions about technology and no assumptions about the competitiveness of the output market. The condition is that the expected marginal revenue product of labor equal the expected rental price of capital. The condition implies a certain invariance property for a modified version of Solow's productivity residual. Tests of the invariance property for U.S. industry data give very strong rejection in quite a few industries. The interpretation of rejection is either that the technology has increasing returns (possibly because of fixed costs) or that fins systematically over-invest.

Suggested Citation

Hall, Robert E., Investment Under Uncertainty: Theory and Tests with Industry Data (May 1987). NBER Working Paper No. w2264, Available at SSRN: https://ssrn.com/abstract=347045

Robert E. Hall (Contact Author)

Hoover Institution and Department of Economics, Stanford University ( email )

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