INVESTMENT DEMAND WHEN ECONOMIC DEPRECIATION IS STOCHASTIC

The neoclassical model of investment by a risk-neutral firm is general ized to include uncertainty about the rate of depreciation by replacin g the deterministic capital accumulation identity with a stochastic va riant. Ito's stochastic dynamic optimization is used to derive conditi ons for optimal investment. A nondegenerate steady-state distribution of the capital stock is shown to exist and is derived for the empirica lly important case of a normalized quadratic profit function and stati c price expectations. It is demonstrated for this case that uncertaint y about the rate of depreciation decreases the expected steady-state c apital stock and investment.