Investment adjustment costs: evidence from UK and US industries

Working papers set out research in progress by our staff, with the aim of encouraging comments and debate.
Published on 09 October 2007

Working Paper No. 332
By Charlotta Groth and Hashmat Khan

In aggregate models, costs that penalise changes in investment - investment adjustment costs - have been introduced to help account for a variety of business cycle and asset market phenomena. In this paper, we evaluate empirical evidence for these types of costs using US and UK industry data. We consider a general adjustment cost structure which nests both investment adjustment costs and the traditional capital adjustment costs as special cases. The estimated weight on the former is close to zero for all the industries. When only the investment adjustment cost structure is considered, the estimates of the adjustment cost parameter are small relative to those based on aggregate data, and imply an elasticity of investment with respect to the shadow price of capital (the value to the firm of one additional unit of capital) fifteen times larger than that found in aggregate studies. Our results suggest that from a disaggregated empirical perspective it remains difficult to motivate and interpret the investment friction considered in recent macroeconomic models.

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