Firm investment, financial constraints and agency costs: evidence from India

Meera Ancy Vincent (), Pranab Kumar Das () and Samaresh Bardhan ()
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Meera Ancy Vincent: Indian Institute of Technology Ropar
Pranab Kumar Das: Centre for Studies in Social Sciences Calcutta
Samaresh Bardhan: Indian Institute of Technology Ropar

Empirical Economics, 2025, vol. 69, issue 6, No 15, 3463-3509

Abstract: Abstract The investment slowdown among Indian firms is a pressing concern with far-reaching implications for the nation’s growth trajectory. Against this backdrop, the present study investigates how finance constraints and agency costs impact firm-level investment efficiency. Based on the Prowess database of Indian private manufacturing firms between 1999 and 2024, we employ two-tier stochastic frontier model (2TSFM) with intra-error dependence to analyse investment inefficiencies arising from under-investment (due to finance constraints) and over-investment (due to agency costs). Our results reveal a significantly negative association between finance constraints and investment, and a significantly positive association between agency costs and investment. Firms with lower agency costs face lesser finance constraints, enabling them to invest more; however, as agency costs increase, this positive effect diminishes, indicating that even some firms with high agency costs still manage to secure external funding. These findings highlight the need for targeted reforms in firm financing and corporate governance to enhance investment efficiency and foster sustained economic growth in emerging economies such as India.

Keywords: Firm investment; Financial constraints; Agency cost; Two-tier stochastic frontier model; Intra-error dependence (search for similar items in EconPapers)
JEL-codes: D22 G01 G31 (search for similar items in EconPapers)
Date: 2025
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DOI: 10.1007/s00181-025-02830-0

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