firm entry and exit play a major role in shaping aggregate dynamics? Our
answer is yes. Entry and exit amplify and propagate the effects of
aggregate shocks. In turn, this leads to greater persistence and
unconditional variation of aggregate time series. These results stem
from well-documented features of firm dynamics such as pro-cyclical
entry and the negative association between age and growth. In the
aftermath of a positive aggregate productivity shock, the number of
entrants increases. Since the new firms are smaller than the incumbents,
as in the data, the initial impact on aggregate dynamics is negligible.
However, as the common productivity component reverts to its
unconditional mean, the new entrants that survive grow larger over time,
generating a wider and longer expansion than in a scenario without entry
or exit. The theory also identifies a causal link between the drop in
establishments at the outset of the great recession and the
painstakingly slow speed of the recovery from it.
We demonstrate theoretically and empirically that strategic
considerations are important in shaping cash policies of innovative
firms. In our model, firms compete in product markets with uncertain
structure using cash as a commitment device to invest in innovation. We
show that firms equilibrium cash holdings are related to expected
intensity of competition. The sign and magnitude of this relation
depends on firms’ financial constraints. Consistent with the strategic
motive for hoarding cash, we show that firms cash holdings are
negatively affected by their rivals cash holding choices, more so when
competition is expected to be intense.
a revised and updated version of a previous paper titled "Firms'
Holdings and the Cross-Section of Equity Returns".
The paper presents a model of the firm that highlights how cash
flows' correlation with a source of aggregate fluctuations (i.e.
systematic risk) affects the firm's optimal cash holding policy. In the
model, riskier firms (i.e. firms with cash flows more highly correlated
with an aggregate shock) are more likely to use costly external funding
to finance their growth options. For this reason, they save more. This
precautionary savings motive is the key ingredient that allows the model
to generate a positive correlation between expected equity returns and
firms' cash holdings. The latter prediction is supported by the data.
the neoclassical model of investment – with decreasing returns to scale
and mean– reverting idiosyncratic productivity – small firms earn a
higher expected return than large firms as long as the term structure of
equity is increasing. This is the case, since low–productivity firms owe
a larger fraction of their valuation to future cash flows. With large
enough operating leverage, the model also delivers a value premium, as
firms with high book-to-market ratios (value) are riskier than their
counterparts with low book-to-market (growth). Consistent with the
evidence, growth firms have seen their idiosyncratic productivity grow
in recent times and invest to take full advantage of their enhanced
efficiency. On the other hand, value firms divest in order to catch up
with declining idiosyncratic productivity. When calibrated to match key
moments of the cross–sectional distribution of investment and the
average book-to-market ratio, however, the model delivers a value
premium that is much smaller than found in the data. This result holds
true for different specifications of the stochastic discount factors and
does not depend upon the magnitude of capital adjustment costs.
Among stock market entrants, more firms over time are R&D–intensive with initially lower profitability but higher growth potential. This sample-selection e ect determines the secular trend in U.S. public firms’ cash holdings. A stylized firm industry model allows us to analyze two competing changes to the selection mechanism: a change in industry composition and a shift toward less profitable R&D–firms. The latter is key to generating higher cash ratios at IPO, necessary for the secular increase, whereas the former mechanism amplifies this e ect. The data confirm the prominent role played by selection, and corroborate the model’s predictions.
market conditions, and the fact that conditions may change, have first
order effects on long-term debt issuance decisions. The majority of
issuers are not liquidity squeezed, and the majority of issuance
proceeds are not invested. Instead, 51% of debt issue proceeds
repurchase debt with more than 1 year remaining in maturity.
Approximately half of these repurchases delay rollover risk, as firms
issue (repurchase) debt with more (less) than 5 years until maturity.
Even among liquidity squeezed firms, market conditions impact issuance
decisions. If market conditions are unfavorable, then squeezed firms
tend to not raise capital, and instead reduce spending.
explores the effects of a firm’s cash flow systematic risk on its
optimal capital structure. In a model where firms are allowed to borrow
resources from a competitive lending sector, those with cash flows more
correlated with the aggregate economy (i.e., firms with riskier assets
in place) choose a lower net leverage given their higher expected
financing costs. On the other hand, less risky firms, having lower
expected financing costs, optimally choose to issue more debt to exploit
a tax advantage. The model predicts that cash flow systematic risk is
negative correlated with net leverage and corporate bond yields.
study the impact of the technological change on asset prices in a
dynamic model economy that features a stochastic technology frontier and
costly technology adoption. Firms adopt the latest technology embodied
in new capital to reach the stochastic technology frontier, but this
decision entails an adoption cost. The model predicts that firms
operating with old capital are more risky and hence offer higher
expected returns than firms using young capital. This is because old
capital firms are more likely to upgrade their capital in the near
future and hence are more exposed to shocks driving the technology
frontier. Our empirical analyses support the model’s predictions. We
find an annual return spread of 9% between old and young capital firms.
The standard asset pricing models fail to explain this return spread,
while a measure of technology adoption shocks prices well the capital
that, in the context of the neoclassical model of investment with mean–
reverting and log–normally distributed productivity shocks, information
on the asymp- totic distribution of the investment rate does not
identify the parameters of the stochastic process. This likely explains
why a variety of recent models with firm–level heterogeneity – both in
macroeconomics and finance – are able to generate sensible
cross–sectional investment rate moments in spite of assuming radically
different values for the persistence and volatility of the shocks.
Information on investment rates does entail a restriction on the two
parameters, which in turn implies that – contingent on the curvature of
the production function – not all recent estimates of the parameters
will be consistent with empirically plausible cross–sectional investment
study the cyclical implications of endogenous firm-level entry and exit
decisions in a dynamic, stochastic general equilibrium model wherein
firms face persistent shocks to both aggregate and individual
productivity. Firms' decisions regarding entry into production and their
subsequent continuation are affected not only by their expected
productivities, but also by the presence of fixed capital adjustment
costs, and thus their existing stocks. Such adjustment frictions distort
the allocation of capital away from an efficient one and muddy the
optimal selection that would otherwise operate at the firm level, thus
reducing the average level of productivity. The more volatile are
individual productivity shocks, the greater is the overall distortion.
The model we explore is in the spirit of Hopenhayn (1992) and, more
directly, an extension of Clementi and Palazzo (2010). Our interest here
is to better understand how selection reshapes the dynamics of macro
aggregates in a general equilibrium setting with realistic firm-level
investment patterns and life-cycle dynamics. More specifically, in an
analysis disciplined by long-run observations on both aggregate and
firm-level variables, we examine the extent to which procyclical entry
and countercyclical exit lead to amplification, greater propagation and
nonlinearities in the movements of aggregate production, employment and