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Market Valuation and the q Theory of Investment

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This study re-evaluates the role of the stock market in Japanese corporate investment decisions based on time-series data. Employing the time-series technique, we examine why the performance of Tobin's average q-type investment function is poor. We construct a series of average q and another of marginal q (a more fundamental profitability measure of investment) and investigate the relationship between the two. A cointegrating relationship is not detected between the two measures, both of which have a unit root. The divergence of average q from marginal q is not narrowed even if the imperfect competition of the output market is taken into consideration. We also examine which q measure is more relevant to Japanese corporate investment decisions by estimating separately the investment function with two measures of q as an explanatory variable. The estimation results show that entrepreneurs place more emphasis on marginal q than on average q in investment decisions.

JEL Classification Number: E22.
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Document Type: Original Article

Affiliations: 1: Osaka University, 2: Kobe University

Publication date: 1999-06-01

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