Fixed Investment and Capital Flows: A Real Options Approach
August 1, 1998
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Summary
This paper draws a link between international capital flows and the real options approach to investment by extending a model of real estate investment. It explains gradual investment, investment booms, and investment during recessions and emphasizes sunk costs, uncertainty, and the value of waiting. The optimal waiting time increases as foreign borrowing becomes more expensive because higher returns are required to cover the sunk costs of investing. The lower the initial level of profitability, the more likely investment will be sequential; conversely, a relatively high initial rate of return will be associated with simultaneous investment.
Subject: Balance of payments, Capital flows, Competition, Emerging and frontier financial markets, Financial institutions, Financial markets, Foreign direct investment, Stocks
Keywords: Asia and Pacific, borrowing cost, capital flows, capital stock, Competition, cost of capital, Emerging and frontier financial markets, Foreign direct investment, interest rate, interest rate spread, investment activity, investment boom, investment decision, irreversible investment, present discounted value, rate of return, Stocks, strategic behavior, WP
Pages:
28
Volume:
1998
DOI:
Issue:
125
Series:
Working Paper No. 1998/125
Stock No:
WPIEA1251998
ISBN:
9781451937398
ISSN:
1018-5941
