communication: OPTIMIZATION: Explicit investment rules with time-to-build and uncertainty
speaker: René Aidspeaker: Salvatore Federico (Università di Genova)
speaker: Huyên Xuan Pham (University Paris 7 Diderot and Institut Universitaire de France)
speaker: Bertrand Villeneuve
abstract: We establish explicit socially optimal rules for an irreversible investment decision with timetobuild and uncertainty. Assuming a price sensitive demand function with a random intercept, we provide comparative statics and economic interpretations for three models of demand (arithmetic Brownian, geometric Brownian, and the CoxIngersollRoss). Committed capacity, that is, the installed capacity plus the investment in the pipeline, must never drop below the best predictor of future demand, minus two biases. The discounting bias takes into account the fact that investment is paid upfront for future use; the precautionary bias multiplies a type of risk aversion index by the local volatility. Relying on the analytical forms, we discuss in detail the economic effects. For example, the impact of volatility on the optimal investment is negligible in some cases. It vanishes in the CIR model for long delays, and in the GBM model for high discount rates.
timetable:
Thu 28 Jan, 15:00 - 17:00, Aula Bianchi Scienze
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