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Investment and Institutions

Yishay Yafeh, Kenichi Ueda () and Stijn Claessens ()
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Yishay Yafeh: Hebrew University

No 513, 2010 Meeting Papers from Society for Economic Dynamics

Abstract: We study how financial systems and institutional environments affect investment efficiency using a sample of some 300,000 firm-years from 48 countries. Based on a canonical investment model, we identify two possible channels by which institutional environments may affect investment: firm-level financial frictions and the macro-level required rate of return. We find that a good institutional environment, in particular strong corporate governance, reduces financial frictions and lowers the required rate of return, thereby enhancing efficiency in capital allocation. This result is broadly consistent with previous literature, but the mechanism identified here is novel and more precise.

Date: 2010
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