Economics Department

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TITLE:
Firm Investment and Financial Frictions

AUTHOR(S):
Christopher F. Baum, Boston College
Mustafa Caglayan, University of Glasgow
Oleksandr Talavera, DIW Berlin

DOCUMENT TYPE: Article

ABSTRACT:
In this paper we investigate the linkages between firms' capital investment behavior and financial frictions arising from asymmetric information, proxied by their liquidity and degree of uncertainty. In our empirical investigation, we use measures of uncertainty derived from firms' daily stock returns and S&P 500 index returns along with a CAPM-based risk measure. Using a panel of U.S. manufacturing firm data obtained from COMPUSTAT over the 1984-2003 period, we specifically find that financial frictions caused by increases in both intrinsic and CAPM-based measures of uncertainty have a significant negative impact on firms' investment spending.