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Cash flow constraints and firms' investment behaviour

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Abstract:

This paper examines the role of cash flow as a determinant of investment in fixed capital at the firm level. A criterion was established for classifying firms as cash flow constrained or unconstrained on a year by year basis. Firms were then assigned to one of these two categories. Data for a sample of 58 Australian firms for the period 1974-75 to 1989-90 were used to estimate separate regressions, incorporating a common set of facilitating and incentive variables, for constrained and unconstrained cases. The results suggest that the investment behaviour of firms when they are financially constrained exhibits a greater sensitivity to cash flow than that of firms when they are unconstrained. In addition, incentive variables such as Tobin's 'Q' and sales growth only have an explanatory role when firms are unconstrained. The implications of these findings for monetary policy are also discussed.

Document Type: Research Article

DOI: http://dx.doi.org/10.1080/000368496328164

Publication date: August 1, 1996

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