Conclusion

In this chapter, we have examined the main neoclassical model of investment under convex adjustment costs. This model is known as the q model of investment, where q is the ratio of the market value of installed capital relative to its replacement value.

In rational expectations equilibrium, the evolution of investment and the capital stock depends on current expectations about the whole future path of disturbances to demand and parameters such as the discount rate, total factor productivity, the adjustment cost function, the depreciation rate, the size of the market, and the price responsiveness of industry demand. The speed of adjustment of the capital stock depends on the discount rate and technological parameters.

The model can be generalized in various directions by introducing additional shocks, such as shocks to total factor productivity and allowing for labor in the production function, business taxes, externalities from capital accumulation, and imperfect competition.

1. The investment rate is defined as a finite rate in the growth models of chapters 3–8 because of the assumption that in a closed economy, the investment rate is equal to the savings rate. Thus, it is the savings rate and not the investment decisions of firms that constrains the investment rate in these models.

2. These models of investment are sometimes referred to as “flexible accelerator” models of investment, in contrast to earlier “fixed accelerator” models, which modeled investment as a constant multiple of the change in output or consumption. For a survey of these earlier accelerator models, see Knox [1952]. The most famous application of the earlier accelerator models in economics has been the paper of Samuelson [1939], which combined the multiplier and the accelerator to characterize output fluctuations in a Keynesian model. We shall analyze the Samuelson multiplier accelerator model along with other traditional Keynesian models in chapter 15.

3. To simplify the analysis, we assume that capital is the only factor of production. The nature of the results does not depend on this simplifying assumption.

4. An alternative competitive version of the linear quadratic Lucas and Prescott [1971] model can be found in Sargent [1987].