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The Influence of Financial Factors on Corporate Investment

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Listed:
  • Karen Mills

    (Reserve Bank of Australia)

  • Steven Morling

    (Reserve Bank of Australia)

  • Warren Tease

    (Reserve Bank of Australia)

Abstract

Recent theoretical developments have shown that cash flows and the structure of a firm’s balance sheet may have an important influence on investment. Establishing a link between cash flows, leverage and investment provides insights into the way that monetary policy and cyclical factors more generally influence the corporate sector. If cash flows are an important determinant of investment, then changes in monetary policy (by changing interest rates) will influence investment through a cash flow effect as well as through altering the rate at which the returns to investment are discounted. If this is the case, the higher leverage of the corporate sector implies, other things being equal, that monetary policy may have a larger impact on investment than in the past. Furthermore, it suggests that the effects of monetary policy will be felt unevenly across the corporate sector. The cash flows of highly geared firms will be more sensitive to changes in interest rates than cash flows of firms with minimal leverage. In this paper we use panel-data analysis to examine the impact of financial factors on investment decisions of firms in the Australian corporate sector. We find strong support for the influence of financial factors on investment decisions. Leverage, internally-generated cash flows, and the stock of cash and liquid financial assets are all important influences on investment behaviour, particularly for smaller firms, highly leveraged firms, and firms with high retention ratios.

Suggested Citation

  • Karen Mills & Steven Morling & Warren Tease, 1994. "The Influence of Financial Factors on Corporate Investment," RBA Research Discussion Papers rdp9402, Reserve Bank of Australia.
    • Handle: RePEc:rba:rbardp:rdp9402
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    References listed on IDEAS

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    Cited by:

    1. J T Kneeshaw, 1995. "A survey of non-financial sector balance sheets in industialised countries: implications for the monetary policy transmission mechanism," BIS Working Papers 25, Bank for International Settlements.
    2. Guest, Ross S. & McDonald, Ian M., 2001. "The volatility of the socially optimal level of investment," Journal of Policy Modeling, Elsevier, vol. 23(8), pages 901-928, November.
    3. Baum, Christopher F. & Caglayan, Mustafa & Stephan, Andreas & Talavera, Oleksandr, 2008. "Uncertainty determinants of corporate liquidity," Economic Modelling, Elsevier, vol. 25(5), pages 833-849, September.
    4. Agustinus Prasetyantoko, 2006. "Financing Constraint and Firm Investment Following a Financial Crisis in Indonesia," Post-Print halshs-00133964, HAL.
    5. Dr. V.R Prabhakaran NAIR, 2009. "Does financial liberalisation reduce credit constraints: A study of firms in the Indian private corporate sector," Proceedings of FIKUSZ '09, in: László Áron Kóczy (ed.),Proceedings of FIKUSZ '09, pages 147-160, Óbuda University, Keleti Faculty of Business and Management.
    6. Tom Valentine, 1994. "The Fight Against Unemployment," Agenda - A Journal of Policy Analysis and Reform, Australian National University, College of Business and Economics, School of Economics, vol. 1(2), pages 167-178.

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