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A Vectorautoregressive Investment Model (VIM) and Monetary Policy Transmission: Panel Evidence from German Firms

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  • Joerg Breitung
  • Robert Chirinko
  • Ulf von Kalckreuth

Abstract

This paper proposes a new framework for studying the effects of monetary policy on business investment. Important ambiguities with the modeling of investment dynamics and interactions between real and financial decisions suggest modeling investment spending as a VAR. Based on a panel of financial statement data for 6,408 German firms (44,345 datapoints) supplemented with user costs of capital and confidential measures of creditworthiness, we generate GMM estimates of a Vectorautoregressive Investment Model (VIM) containing investment, cash flow, sales, and the user cost of capital. We report four substantive findings. First, monetary policy matters, and business investment is responsive to interest rates embedded in the user cost of capital. Second, allowing real and financial decisions to interact raises the impact of monetary policy by one-third relative to simulations of an investment equation in isolation that assumes an exogenous financial policy. Third, the sensitivity of investment to cash flow shocks is raised by two-thirds relative to single equation computations appearing in the literature. Fourth, firms with poor credit ratings are "paralyzed" in being unable to react to changing economic conditions as given by relative prices or demand. On the other hand and consistent with binding financing constraints, these endangered firms show a high responsiveness to cash flow shocks. Apart from these substantive conclusions, this paper demonstrate that the panel VAR approach is useful for modeling firm dynamics and real/financial interactions and for assessing monetary policy transmission.

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Paper provided by Department of Economics, Emory University (Atlanta) in its series Emory Economics with number 0307.

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Date of creation: May 2003
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Handle: RePEc:emo:wp2003:0307

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  1. Coen, Robert M, 1969. "Tax Policy and Investment Behavior: Comment," American Economic Review, American Economic Association, vol. 59(3), pages 370-79, June.
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Cited by:
  1. W.A. Bruinshoofd, 2003. "Corporate Investment and Financing Constraints: Connections with Cash Management," WO Research Memoranda (discontinued) 734, Netherlands Central Bank, Research Department.
  2. Ulf von Kalckreuth, 2005. "Financial constraints and real activity: a non-structural approach using UK survey data," BIS Papers chapters, in: Bank for International Settlements (ed.), Investigating the relationship between the financial and real economy, volume 22, pages 64-80 Bank for International Settlements.
  3. Issouf Samaké, 2008. "Investment and Growth Dynamics," IMF Working Papers 08/120, International Monetary Fund.
  4. von Kalckreuth, Ulf, 2000. "Exploring the role of uncertainty for corporate investment decisions in Germany," Discussion Paper Series 1: Economic Studies 2000,05, Deutsche Bundesbank, Research Centre.
  5. Ulf von Kalckreuth & Emma Murphy, 2005. "Financial constraints and capacity adjustment in the United Kingdom: evidence from a large panel of survey data," Bank of England working papers 260, Bank of England.
  6. Seok-Kyun Hur, 2005. "Money Growth and Interest Rates," NBER Working Papers 11102, National Bureau of Economic Research, Inc.

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