Investment choice and inflation uncertainty

This paper investigates the relationship between infation uncertainty and investment using a panel of loan-level data from small businesses. Micro-level data makes it possible to study phenomena that are obscured in country or industry aggregates. The data show that periods of increased inflation uncertainty are associated with substantial reductions in total investment. Moreover, there is a shift in the composition of investment away from fixed assets and towards working capital - the more flexible factor of production - and fixed asset investment exhibits periods of inaction consistent with real option models of investment under uncertainty.