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Financial Frictions, Investment, and Institutions

Yishay Yafeh, Kenichi Ueda and Stijn Claessens ()

No 2010/231, IMF Working Papers from International Monetary Fund

Abstract: Financial frictions have been identified as key factors affecting economic fluctuations and growth. But, can institutional reforms reduce financial frictions? Based on a canonical investment model, we consider two potential channels: (i) financial transaction costs at the firm level; and (ii) required return at the country level. We empirically investigate the effects of institutions on these financial frictions using a panel of 75,000 firm-years across 48 countries for the period 1990 - 2007. We find that improved corporate governance (e.g., less informational problems) and enhanced contractual enforcement reduce financial frictions, while stronger creditor rights (e.g., lower collateral constraints) are less important.

Keywords: WP; external finance; rate of return; product market; Financial Friction; investment; institution; corporate governance; creditor rights; adjustment cost; required rate of return; inflation rate; investment decision; investment efficiency; cash flow; replacement cost; debt cost; investment adjustment cost; investment literature; costs of investment; Inv. Adj. cost; Financial frictions; Competition; Commodity markets; Stocks; Global (search for similar items in EconPapers)
Pages: 45
Date: 2010-10-01
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Handle: RePEc:imf:imfwpa:2010/231