This project will analyze the determinants of investment spending. It will quantify several key determinants and study how they affect investment both in theory and in practice. The proposal features two related lines of research. The first research component is an empirical analysis of investment at a disaggregated level. The second component develops and estimates a structural model of investment. The two research components are complementary. The empirical results are used to inform, test, and estimate parameters of the structural model. In turn, the structural model provides important insights into the effects of recent and future investment policies. The first part of the project presents an empirical analysis of investment. This research establishes key empirical facts that investment theories should match. It also evaluates the empirical success of several existing theories. Specifically, using a panel of type-specific investment data, four prominent empirical issues are studied: (1) the cyclicality of pre-tax and after-tax investment prices; (2) the role of uncertainty in investment spending; (3) the response of investment to tax subsidies and (4) the response of automobile production and prices to the Consumer Assistance to Recycle and Save Act of 2009, also known as "cash for clunkers.?" The primary data sets used are the BEA underlying detail tables for investment, recently available measures of economic uncertainty, and an updated, revised set of type-specific investment tax subsidies.The second part of the proposal presents a structural equilibrium model of investment. The theoretical framework builds on previous studies which feature fixed adjustment costs at the microlevel. The model adds to this research by introducing a new investment timing friction not featured in earlier work. The timing friction allows firm-level heterogeneity to have a substantial influence on equilibrium investment dynamics. This is a ignificant extension of the research on fixed costs and firm-level heterogeneity since important effects of such heterogeneity are not present in earlier models. As a result, the proposed framework will provide a better guide to analyzing investment policy. The magnitude of the timing friction will be estimated with type-specific investment data. The empirical work in the first part of the proposal will provide several parameters to assess the fit of the theoretical model and to develop estimates of the effects of specific policy changes. Summary of intellectual merit. The project will develop a modern model of investment that incorporates key frictions that imply important firm-level heterogeneity. While the model incorporates many complex modern features, it is also analytically tractable and yields sharp testable predictions. Hence, this research will allow modern investment models to confront the data in a meaningful way and to be used to evaluate specific policies. Summary of broader implications. This research will provide both theoretical and empirical guidance for government policies designed either to affect overall economic activity by stimulating investment or to promote investment to increase economic growth. Additionally, the results of this analysis will be valuable to studying business cycles by shedding light on how various shocks affect investment activity.
PI: Christopher House University of Michigan Ann Arbor This project analyzed the determinants of investment spending with particular focus on (1) the effects of investment tax subsidies on investment and capital goods prices (2) the effects of "investment-specific productivity innovations" and (3) the effects of fixed-costs and planning lags on investment models. The project has findings in these three dimensions. It has produced estimates of how production, employment, inputs and productivity at capital producing firms respond during periods of investment subsidies (these are subsidies to the customers for these firms). The first set of results quantified these effects using an updated chronology of tax changes as part of the analysis. The estimates show that investment tax policies have clear and consistent effects on capital purchases and investment production. Investment subsidies are more effective at boosting purchases than they are at increasing domestic production. Put differently, some of the stimulative impact of the policy is felt outside the United States. The estimates show that capital-producing firms increase employment, hours and materials usage following an investment subsidy. The quantitative estimates are comparable to the direct production estimates. According to the empirical work, some well-known earlier findings – particularly concerning the price effects of investment subsidies – do not hold up with the expanded data sample. The project augmented this work by constructing an elaborate multi-sector investment model which can be used to analyze policy effects for the U.S. as a whole. The model includes both domestically produced investment production and imports of capital goods. The model can simulate a wide variety of tax subsidies including anticipated future tax changes, changes to tax depreciation allowances and direct investment tax credits. In the data, a substantial amount of variation in the after-tax relative price of plant and equipment is due to variation in investment tax subsidies. This source of variation has been sharply reduced in the latter half of the sample following the repeal of the investment tax credit. The findings of this research can be used to inform the design and analyze the likely effects of changes in tax policy, particularly as they bear on business investment.
