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Does Balance Sheet Strength Drive the Investment Cycle? Evidence from Pre- and Post-Crisis Cyprus

Author

Listed:
  • Yinqiu Lu

    (International Monetary Fund)

  • Sophia Chen

    () (International Monetary Fund)

Abstract

Fixed investment has contributed significantly to the boom-bust cycle in Cyprus since it joined the European Union in 2004. Investment accelerated during a credit boom in mid-2000s, manifested by heavy corporate sector borrowing. Investment collapsed after 2008 when the credit boom ended. Investment and corporate balance sheets further deteriorated during the Cypriot banking crisis over 2012–14. Using firm-level data on investment and balance sheets, we find that corporate indebtedness is negatively associated with investment, although the effect is weaker after the start of the banking crisis, possibly due to the reduced role of credit in driving investment and growth. Our results suggest the need to repair corporate balance sheets to support sustainable investment.

Suggested Citation

  • Yinqiu Lu & Sophia Chen, 2018. "Does Balance Sheet Strength Drive the Investment Cycle? Evidence from Pre- and Post-Crisis Cyprus," Cyprus Economic Policy Review, University of Cyprus, Economics Research Centre, vol. 12(1), pages 3-27, June.
  • Handle: RePEc:erc:cypepr:v:12:y:2018:i:1:p:3-27
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