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Do Agency relations Mediate the Interactions between Firms' Financial Policies and Business Cycles?


  • Charles-Henri Reuter

    () (LSF, Statec, ESCP Europe, CEROS)


We investigate the interactions between firms’ financial policies and expected business cycles, in listed firms, in Europe, and over 20 years. We show that these interactions are mediated by ownership structures. Firms with strongly concentrated ownership, or under control, lead contra-cyclical policies, while firms with dispersed ownership lead somewhat pro-cyclical policies, supporting the traditional expectation that business cycles are of little direct relevance for financial policies. Our theoretical considerations unfold from the idea that ownership dispersion implies a different mix in agency relations in the firm. It entails specificities in agency costs, opportunity benefits of managerial discretion, it fosters differing needs for disciplining through debt, different needs for signaling, and potentially different market timing behaviors by managers and incumbent shareholders. As a result different objectives and constraints foster different policies: firms with dispersed ownership conduct lean (i.e. procyclical) policies, while firms with concentrated ownership or under control favor some financial smoothing (i.e. contra-cyclical policies). We derive from these two propositions specific hypotheses about public debt issuance, private debt management, investment, dividend and cash-holding policies, as well as resulting changes in financial leverage. Evidence is mostly supportive of our hypothesizing and propositions. Our proceedings are largely exploratory and our potential contribution extends to a number adjacent research questions including, among others, the analysis of performance effects of ownership concentration, the relative assessment of governance mechanisms, or still the investigation, in capital structure studies, of specific managerial behaviors and managerspecific information. Overall our emphasis on the potential relevance of business cycles for firm’s financial policies comes timely following the recent financial turmoil.

Suggested Citation

  • Charles-Henri Reuter, 2010. "Do Agency relations Mediate the Interactions between Firms' Financial Policies and Business Cycles?," LSF Research Working Paper Series 10-10, Luxembourg School of Finance, University of Luxembourg.
  • Handle: RePEc:crf:wpaper:10-10

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    References listed on IDEAS

    1. Prasanna Gai & Nicholas Vause, 2006. "Measuring Investors' Risk Appetite," International Journal of Central Banking, International Journal of Central Banking, vol. 2(1), March.
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    3. Coudert, Virginie & Gex, Mathieu, 2008. "Does risk aversion drive financial crises? Testing the predictive power of empirical indicators," Journal of Empirical Finance, Elsevier, vol. 15(2), pages 167-184, March.
    4. Miroslav Misina, 2003. "What does the risk-appetite index measure?," Economics Bulletin, AccessEcon, vol. 28(6), pages 1-6.
    5. Michel, Philippe, 1982. "On the Transversality Condition in Infinite Horizon Optimal Problems," Econometrica, Econometric Society, vol. 50(4), pages 975-985, July.
    6. Gustav Feichtinger & Richard F. Hartl & Suresh P. Sethi, 1994. "Dynamic Optimal Control Models in Advertising: Recent Developments," Management Science, INFORMS, vol. 40(2), pages 195-226, February.
    7. repec:ebl:ecbull:v:28:y:2003:i:6:p:a6 is not listed on IDEAS
    8. Devraj Basu & Chi-Hsiou Hung & Roel Oomen & Alexander Stremme, 2006. "When to Pick the Losers: Do Sentiment Indicators Improve Dynamic Asset Allocation?," Working Papers wpn06-13, Warwick Business School, Finance Group.
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    More about this item


    Agency theory; International capital structure; Business cycles; Ownership dispersion. Entrenchment; Managerial discretion; Institutional context.;

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