Extensive And Intensive Investment Over The Business Cycle

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Executive Summary

Investment of U.S. firms responds asymmetrically to Tobin's Q: Investment of established firms - 'Intensive' investment - reacts negatively to Q whereas investment of new firms -'Extensive' investment - responds positively and elastically to Q. This asymmetry, the authors argue, reflects a difference between established and new firms in the cost of adopting new technologies. A fall in the compatibility of new capital with old capital raises measured Q and reduces the incentive of established firms to invest. New firms do not face such compatibility costs and step up their investment in response to the rise in Q. A composite-capital version of the model fits the data well using aggregates since 1900 and the new database of firm-level Qs that extend back to 1920.

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