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

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  • Simon Gilchrist
  • Egon Zakrajsek

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 investment rate of 50 to 75 basis points and, in the long run, a 1 percent reduction in the stock of capital.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 13174.

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Date of creation: Jun 2007
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Handle: RePEc:nbr:nberwo:13174

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