On the Theory of Investment in Vintage Capital Models

This paper studies optimal investment behavior in a clay-clay production environment. The model describes a firm producing one good on an imperfectly competitive output market, using capital and labor services. Existence and comparative dynamics of an optimal policy are studied. The model is calibrated for the U.S. manufacturing sector and numerical simulation experiments indicate that the replacement of old capital in response to price shocks generates substantial short-term substitution effects, that may lead to overshooting of investment. The effects on the age composition of capital are shown to explain observed investment autocorrelations at high lags.