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The Neoclassical Model, Corporate Retained Earnings, And The Regional Flows Of Financial Capital

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  • Stanley C. W. Salvary

    (Canisius College)

Abstract

Regional capital expenditures, which reflect regional flows of financial capital, are a function of the aggregate of individual firms' behavior. Hence, the allocational efficiency of the regional flows of financial capital may be affected by the manner--internal versus external--in which financial capital becomes available to manufacturing firms. Allocational inefficiency (sub-optimal allocation of financial capital) could obtain since corporate retained earnings - the amount of funds that are internally available to large firms - are only minimally subject to the market rationing process. Even though the capital market is cleared, it may do so without providing for the efficient allocation of financial capital. The existence of differential rates in regional financial markets may reflect the costs associated with the use of funds in a truncated or discontinuous national capital market. Accordingly, equilibrium experienced in the capital market may exist under non- Paretian conditions. This paper attempts to determine whether the allocation of regional financial capital flows is efficient as suggested by the neoclassical model (NCM). Specifically, the study attempts to ascertain whether corporate retained earnings model (CREM) is a better predictor of the regional flow of financial capital than the NCM. In accordance with the NCM, for the period under study, it is hypothesized that: regions with high rates of return are regions with high growth rates of corporate income that experience lower variability of annual capital investments than regions with low rates of return. In accordance with the CREM, it is postulated that regions with high average annual capital investment-output ratios are regions with high corporate income and low average rates of return on corporate assets. Surrogate measures of financial capital flows and the volatility of such flows were used. The test results, which may not be generalizable beyond the study period, suggest that the CREM may be a better predictor of the regional flow of financial capital than the NCM and that the financial capital rationing process for regional manufacturing investments may be inefficient. The finding, that the corporate earnings retention influences the flow of financial capital, does suggest that the NCM does not always hold. This study should enhance the understanding of regional flows of financial capital and the models (revolving around the state- region and industry region) used in the study refine and extend the scope of regional economic analysis.

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Bibliographic Info

Paper provided by EconWPA in its series Urban/Regional with number 0410007.

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Length: 44 pages
Date of creation: 27 Oct 2004
Date of revision:
Handle: RePEc:wpa:wuwpur:0410007

Note: Type of Document - bin; pages: 44. The neoclassical model (NCM)is the main predictive model of regional financial capital flows. This paper introduces the corporate retained earnings model (CREM) as another potential predictor of the regional flow of financial capital. The existence of differential rates in regional financial markets may reflect the costs associated with the use of funds in a truncated or discontinuous national capital market.
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Web page: http://128.118.178.162

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Keywords: internal and external financing; allocational efficiency; industry regions; dominant industry; universal investment opportunity set (UIOS); firm’s investment opportunity set (FIOS).;

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  1. Stacy E. Kottman, 1992. "Regional employment by industry: do returns to capital matter?," Economic Review, Federal Reserve Bank of Atlanta, issue Sep, pages 13-25.
  2. Timothy J. Bartik, 2003. "Local Economic Development Policies," Upjohn Working Papers and Journal Articles 03-91, W.E. Upjohn Institute for Employment Research.
  3. Tim Opler & Lee Pinkowitz & Rene Stulz & Rohan Williamson, 1997. "The Determinants and Implications of Corporate Cash Holdings," NBER Working Papers 6234, National Bureau of Economic Research, Inc.
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  5. Yolanda K. Henderson & Jeffrey B. Liebman, 1992. "Capital costs, industrial mix, and the composition of business investment," New England Economic Review, Federal Reserve Bank of Boston, issue Jan, pages 67-92.
  6. Weber, William L. & Domazlicky, Bruce R., 1999. "Total factor productivity growth in manufacturing: a regional approach using linear programming," Regional Science and Urban Economics, Elsevier, vol. 29(1), pages 105-122, January.
  7. Timothy J. Bartik, 1991. "Who Benefits from State and Local Economic Development Policies?," Books from Upjohn Press, W.E. Upjohn Institute for Employment Research, number wbsle, December.
  8. Gasper A. Garofalo & Steven Yamarik, 2002. "Regional Convergence: Evidence From A New State-By-State Capital Stock Series," The Review of Economics and Statistics, MIT Press, vol. 84(2), pages 316-323, May.
  9. Patricia Beeson & Stephen Husted, 1986. "Patterns and determinants of inefficiency in state manufacturing," Working Paper 8603, Federal Reserve Bank of Cleveland.
  10. Gordon M Phillips & Vojislav Maksimovic, 1999. "Do Conglomerate Firms Allocate Resources Inefficiently?," Working Papers 99-11, Center for Economic Studies, U.S. Census Bureau.
  11. Garofalo, Gasper A. & Malhotra, Devinder M., 1992. "A regional comparison of the impact of changes in input prices on input demand for U.S. manufacturing," Regional Science and Urban Economics, Elsevier, vol. 22(2), pages 213-228, June.
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