Economic Policy Uncertainty and Corporate Investment Decisions: A Literature Review of Quantitative Approaches and Dynamic Models

Economic policy uncertainty (EPU) has become a significant subject in economics and corporate finance since policy uncertainty can affect the manner in which firms make plans, finance, and use time in making investment decisions. This review article looks at the conceptualization and measurement of EPU, the theories that have been primarily applied trying to explain the importance of uncertainty to investment and what the fundamental patterns of evidence have shown across nations and sectors. The paper is organized around three general ways of transmission: real-options delay in case investment is irreversible, financing and cost-of-capital frictions and information flows which weaken the transmission of signals within decision-making under conditions of uncertainty. It also asks the question why firms respond differently- focusing on the importance of liquidity, constraints, ownership structure, and institutional context- and what strategies seem to assist firms in maintaining quality of investment when under uncertainty. The review concludes with the identification of implications to research design and the presentation of priority directions to conduct future research in measurement comparability, causal inference, and corporate responses.