Financial frictions and investment: Requiem in Q

Russell Cooper, João Ejarque

Research output: Contribution to journalArticlepeer-review

66 Scopus citations

Abstract

Understanding the nature of financial frictions faced by firms is relevant for both monetary and fiscal policy experiments. Empirical investment studies commonly find that proxies for firms' internal funds are significant as explanatory variables, particularly in the Q-theory based regression framework. These findings are often interpreted as evidence of financial frictions. This paper investigates that inference by specifying and estimating a class of dynamic optimization models where imperfectly competitive firms face financial constraints. Market power induces the principal link between investment and internal funds. We find no evidence to support the argument that capital market imperfections contribute to the relationship between investment and profitability.

Original languageEnglish (US)
Pages (from-to)710-728
Number of pages19
JournalReview of Economic Dynamics
Volume6
Issue number4
DOIs
StatePublished - Oct 2003

All Science Journal Classification (ASJC) codes

  • Economics and Econometrics

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