Source: fmwww.bc.edu
Topic: Investment Firm
Sort Desciption: effect of financial frictions on firms’ investment behavior by investigating ... tio maintain their significance in explaining firm investment behavior. ...
Content Inside: Firm Investment and Financial Frictions Christopher F Baum ∗ Boston College and DIW Berlin Mustafa Caglayan University of Sheffield Oleksandr Talavera DIW Berlin April 24, 2007 Abstract We investigate the analytical and empirical linkages between firms’ capital investment behavior and financial market frictions. Our em- pirical approach constructs measures of own- and market-specific un- certainty from firms’ daily stock returns and S&P 500 index returns along with a CAPM-based risk measure. Our results indicate that even in the presence of important firm-specific variables, uncertainty is an important determinant of firms’ investment behavior. Depending on the measure of uncertainty used, uncertainty can have an enhancing or negative effect on investment on its own or through its effects on cash flow. Keywords: capital investment, asymmetric information, financial frictions, uncer- tainty, CAPM JEL: E22, D81, C23 ∗ We are grateful for comments received from seminar participants at Koc Univer- sity, the University of Strathclyde and the 13th International Conference on Panel Data, University of Cambridge. Corresponding author: Christopher F Baum, Department of Economics, Boston College, Chestnut Hill, MA 02467 USA, Tel: 617–552–3673, fax 617– 552–2308, e-mail: baum@bc.edu. 1 1 Introduction It is well known that the variability of private investment spending accounts for the bulk of business fluctuations. To that end several theoretical studies have examined the extent to which uncertainty affects aggregate or firm- specific capital accumulation. This literature concentrates on the impact of uncertainty arising from various sources which affects managers’ decision- making process regarding the timing and the quantity of fixed capital invest- ment. 1 In our research we extend the standard Tobin’s Q model in order to analyze the impact of uncertainty on the firm’s investment decision problem while scrutinizing the role of asymme ...
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