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Why Do Companies Pay Dividends?

Martin Feldstein and Jerry Green

No 413, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: This paper presents a simple model of market equilibrium to explain why firms that maximize the value of their shares pay dividends even though the funds could instead be retained and subsequently distributed to shareholders in a way that would allow them to be taxed more favorably as capital gains. The two principal ingredients of our explanation are:(1) the conflicting preferences of shareholders in different tax brackets and (2) the shareholders' desire for portfolio diversification, we show that companies will pay a positive fraction of earnings in dividends. We also provide some comparative static analysis of dividend behavior with respect to tax parameters and to the conditions determining the riskiness of the securities.

Date: 1979-12
Note: PE
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Published as Feldstein, Martin and Green, Jerry. "Why Do Companies Pay Dividends?" The American Economic Review, Vol. 73, No. 1 (March 1983), pp. 17-30.

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