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Further Evidence On The Relationship Between Firm Investment And Financial Status

  • von Kalckreuth, Ulf
  • Chirinko, Robert S.

The interpretation of the significant relation between business investment spending and cash flow has been controversial. A large body of research has found that investment/cash flow sensitivities are higher for financially constrained firms. This fundamental result underlying the finance constraints hypothesis has been challenged recently by Kaplan, Zingales, and Cleary. The latter author introduces an important new element to this debate by using discriminant analysis, which allows creditworthy firms to be identified using an objective ex-ante criterion based on dividend payouts. Consistent with the Kaplan and Zingales critique, investment/cash flow sensitivities are lower for financially constrained firms. This short paper documents that the use of discriminant analysis does not necessarily lead to lower sensitivities. Our contrasting results are traceable to the use of the firm's creditworthiness as the discriminating variable and appropriate adjustments for endogenous regressors and serially correlated residuals. We document that the investment/cash flow sensitivity is higher for financially constrained firms.

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Paper provided by Deutsche Bundesbank, Research Centre in its series Discussion Paper Series 1: Economic Studies with number 2002,28.

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Date of creation: 2002
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Handle: RePEc:zbw:bubdp1:4193
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  1. R. Glenn Hubbard, 1998. "Capital-Market Imperfections and Investment," Journal of Economic Literature, American Economic Association, vol. 36(1), pages 193-225, March.
  2. Mark L. Gertler, 1988. "Financial Structure and Aggregate Economic Activity: An Overview," NBER Working Papers 2559, National Bureau of Economic Research, Inc.
  3. Easterbrook, Frank H, 1984. "Two Agency-Cost Explanations of Dividends," American Economic Review, American Economic Association, vol. 74(4), pages 650-59, September.
  4. Blundell, Richard & Bond, Stephen & Devereux, Michael & Schiantarelli, Fabio, 1992. "Investment and Tobin's Q: Evidence from company panel data," Journal of Econometrics, Elsevier, vol. 51(1-2), pages 233-257.
  5. Steven M. Fazzari & R. Glenn Hubbard & Bruce C. Petersen, 2000. "Investment-Cash Flow Sensitivities Are Useful: A Comment On Kaplan And Zingales," The Quarterly Journal of Economics, MIT Press, vol. 115(2), pages 695-705, May.
  6. Alan J. Auerbach, 1982. "Taxation, Corporate Financial Policy and the Cost of Capital," NBER Working Papers 1026, National Bureau of Economic Research, Inc.
  7. Sean Cleary, 1999. "The Relationship between Firm Investment and Financial Status," Journal of Finance, American Finance Association, vol. 54(2), pages 673-692, 04.
  8. Steven N. Kaplan & Luigi Zingales, 2000. "Investment-Cash Flow Sensitivities Are Not Valid Measures Of Financing Constraints," The Quarterly Journal of Economics, MIT Press, vol. 115(2), pages 707-712, May.
  9. Gustavo Grullon & Roni Michaely & Bhaskaran Swaminathan, 2002. "Are Dividend Changes a Sign of Firm Maturity?," The Journal of Business, University of Chicago Press, vol. 75(3), pages 387-424, July.
  10. Oliner, Stephen D & Rudebusch, Glenn D, 1992. "Sources of the Financing Hierarchy for Business Investment," The Review of Economics and Statistics, MIT Press, vol. 74(4), pages 643-54, November.
  11. Bernanke, Ben & Gertler, Mark, 1990. "Financial Fragility and Economic Performance," The Quarterly Journal of Economics, MIT Press, vol. 105(1), pages 87-114, February.
  12. Franklin Allen & Antonio Bernardo & Ivo Welch, 1998. "A Theory of Dividends Based on Tax Clienteles," Yale School of Management Working Papers ysm92, Yale School of Management.
  13. Fabio Schiantarelli, 1995. "Financial Constraints and Investment: A Critical Review of Methodological Issues and International Evidence," Boston College Working Papers in Economics 293., Boston College Department of Economics.
  14. Arellano, Manuel & Bond, Stephen, 1991. "Some Tests of Specification for Panel Data: Monte Carlo Evidence and an Application to Employment Equations," Review of Economic Studies, Wiley Blackwell, vol. 58(2), pages 277-97, April.
  15. Kaplan, Steven N & Zingales, Luigi, 1997. "Do Investment-Cash Flow Sensitivities Provide Useful Measures of Financing Constraints," The Quarterly Journal of Economics, MIT Press, vol. 112(1), pages 169-215, February.
  16. Steven M. Fazzari & R. Glenn Hubbard & BRUCE C. PETERSEN, 1988. "Financing Constraints and Corporate Investment," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 19(1), pages 141-206.
  17. Hansen, Lars Peter, 1982. "Large Sample Properties of Generalized Method of Moments Estimators," Econometrica, Econometric Society, vol. 50(4), pages 1029-54, July.
  18. Lawrence R. Klein, 1951. "Studies in Investment Behavior," NBER Chapters, in: Conference on Business Cycles, pages 233-318 National Bureau of Economic Research, Inc.
  19. Joe Peek & Eric S. Rosengren, 1995. "Is bank lending important for the transmission of monetary policy: an overview," Conference Series ; [Proceedings], Federal Reserve Bank of Boston, vol. 39, pages 1-14.
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