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Corporate Financial Policy, Taxation, and Macroeconomic Risk

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  • Mark Gertler
  • R. Glenn Hubbard

Abstract

This article formalizes the intuition that equity provides firms with a cushion against aggregate fluctuations. We show that equity allows a firm to share aggregate risks with its creditors, minimizing the chance that a recession could push it into financial distress. The tax bias against equity finance reduces the extent to which firms insulate themselves against aggregate risks. The role of equity in sharing aggregate risks leads to the prediction that firms' dividends should vary with macroeconomic conditions, after controlling for the effects of relevant firm-level variables. We present empirical evidence in support of this prediction.

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Bibliographic Info

Article provided by The RAND Corporation in its journal RAND Journal of Economics.

Volume (Year): 24 (1993)
Issue (Month): 2 (Summer)
Pages: 286-303

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Handle: RePEc:rje:randje:v:24:y:1993:i:summer:p:286-303

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References

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  1. Terry A. Marsh and Robert C. Merton., 1986. "Dividend Behavior for the Aggregate Stock Market," Research Program in Finance Working Papers 163, University of California at Berkeley.
  2. Ben S. Bernanke & John Y. Campbell, 1988. "Is There a Corporate Debt Crisis?," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 19(1), pages 83-140.
  3. Mark Gertler & R. Glenn Hubbard, 1990. "Taxation, Corporate Capital Structure, and Financial Distress," NBER Chapters, in: Tax Policy and the Economy: Volume 4, pages 43-72 National Bureau of Economic Research, Inc.
  4. repec:fth:harver:1489 is not listed on IDEAS
  5. Miller, Merton H & Rock, Kevin, 1985. " Dividend Policy under Asymmetric Information," Journal of Finance, American Finance Association, vol. 40(4), pages 1031-51, September.
  6. Mark J. Warshawsky, 1991. "Is There a Corporate Debt Crisis? Another Look," NBER Chapters, in: Financial Markets and Financial Crises, pages 207-230 National Bureau of Economic Research, Inc.
  7. Benjamin M. Friedman, 1986. "Increasing indebtedness and financial stability in the United States," Proceedings - Economic Policy Symposium - Jackson Hole, Federal Reserve Bank of Kansas City, pages 27-61.
  8. James M. Poterba, 1987. "Tax Policy and Corporate Saving," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 18(2), pages 455-516.
  9. Michael C. Jensen, 1989. "Active Investors, LBOs, and the Privatization of Bankruptcy," Journal of Applied Corporate Finance, Morgan Stanley, vol. 2(1), pages 35-44.
  10. Easterbrook, Frank H, 1984. "Two Agency-Cost Explanations of Dividends," American Economic Review, American Economic Association, vol. 74(4), pages 650-59, September.
  11. Sudipto Bhattacharya, 1979. "Imperfect Information, Dividend Policy, and "The Bird in the Hand" Fallacy," Bell Journal of Economics, The RAND Corporation, vol. 10(1), pages 259-270, Spring.
  12. Richard Cantor, 1990. "A panel study of the effects of leverage on investment and employment," Research Paper 9011, Federal Reserve Bank of New York.
  13. Andrei Shleifer & Robert W. Vishny, 1991. "Asset Sales and Debt Capacity," NBER Working Papers 3618, National Bureau of Economic Research, Inc.
  14. Jensen, Michael C, 1986. "Agency Costs of Free Cash Flow, Corporate Finance, and Takeovers," American Economic Review, American Economic Association, vol. 76(2), pages 323-29, May.
  15. Harris, Milton & Raviv, Artur, 1991. " The Theory of Capital Structure," Journal of Finance, American Finance Association, vol. 46(1), pages 297-355, March.
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