Leverage dynamics over the business cycle: Evidence from Taiwan listed and unlisted firms

As the role of credit expansion in fueling economic booms and sowing the seeds of severe economic downturns has been the focus of many recent studies, e.g., Koo (2009) and Jordà et al. (2013, 2015), in the current study we employ data on Taiwan’s 1477 publicly listed firms and 1358 unlisted firms over the period of 1986–2014 to study their leverage dynamics over the business cycle. Through our panel regressions, we find (1) debt financing and equity financing are procyclical for most firms examined; (2) for the less mature firms, the leverage ratio tends to move countercyclically for unlisted firms while procyclically for the larger-sized publicly listed firms; (3) for the more mature firms, the leverage ratio tends to be mildly countercyclical for most unlisted firms while procyclical for most publicly listed firms; (4) the procyclicality of leverage is strongest for the largest publicly listed firms while the countercyclicality of leverage is strongest for the less mature smallest unlisted firms. Our overall findings accord well with the prediction of Berger and Udell (1998)’s “financial growth cycle hypothesis” and have the important implication that Taiwan’s small and medium enterprises, a major part of the private sector, are unlikely to be the source of over-leveraging and financial instability.