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Investment and the Cost of Capital: New Evidence from the Corporate Bond Market

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Author Info
Simon Gilchrist (Department of Economics, Boston University and NBER)
Fabio M. Natalucci (Federal Reserve Board)
Egon Zakrajsek () (Federal Reserve Board)

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Abstract

We study the effect of variation in interest rates on investment spending, employing a large panel data set that links yields on outstanding corporate bonds to the issuer income and balance sheet statements. The bond price data—based on trades in the secondary market—enable us to construct a firm-specific measure of the user cost of capital based on the marginal cost of external finance as determined in the market for long-term corporate debt. Our results imply a robust and quantitatively important effect of the user cost of capital on the firm-level investment decisions. According to our estimates, a 1 percentage point increase in the user cost of capital implies a reduction in the rate of investment of 50 basis points and, in the long-run, a 1 percent reduction in the stock of capital.

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Paper provided by Boston University - Department of Economics in its series Boston University - Department of Economics - Working Papers Series with number WP2007-027.

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Length: 32pages
Date of creation: Apr 2007
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Handle: RePEc:bos:wpaper:wp2007-027

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Keywords: Investment user cost of capital corporate bond yields

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Find related papers by JEL classification:
E22 - Macroeconomics and Monetary Economics - - Macroeconomics: Consumption, Saving, Production, Employment, and Investment - - - Capital; Investment; Capacity
E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy

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  1. Paul Bachman & Jonathan Haughton & Laurence J. Kotlikoff & Alfonso Sanchez-Penalver & David G. Tuerck, 2006. "Taxing Sales Under the FairTax: What Rate Works?," NBER Working Papers 12732, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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