Monday, July 18, 2005

NBER Report on Sunk Costs

Sunk Costs and Real Options in Antitrust
by Robert S. Pindyck  -  #11430 (IO)


Sunk costs play a central role in antitrust economics, but are often misunderstood and mismeasured. I will try to clarify some of the conceptual and empirical issues related to sunk costs, and explain their implications for antitrust analysis. I will be particularly concerned with the role of uncertainty. When market conditions evolve unpredictably (as they almost always do), firms incur an opportunity cost when they invest in new capital, because they give up the option to wait for the arrival of new information about the likely returns from the investment. This option value is a sunk cost, and is just as relevant for antitrust analysis as the direct cost of a machine or a factory.

Thanks to Joe Hodnicki, editor of Law Librarian Blog for the tip

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