A Dynamic Factor Demand Model on Gas Firms: Application of Ito's Stochastic Differential Equation

Abstract

This paper studies a model of capital adjustment cost and investment behavior of a competitive firm. Our goal is to examine the effects of uncertainty on the optimal rate of investment. The framework for this analysis is a stochastic version of the dynamic factor demand model. The result is induced from the data of 9 privately owned Japanese gas firms for the period 1981-1995. The model with the Euler-Lagrange equation of the stochastic version shows reasonable results. It means that the stochastic style of the dynamic factor demand model is successfully estimated.