Abstract
A financial constraint that prevents access to external funds induces non-classical measurement error in average q as a proxy for unobservable marginal q. Unlike classical measurement error, this measurement error biases upward the coefficient on average q in a univariate regression of investment on average q. In a multiple regression of investment on average q and cash flow, the coefficient on cash flow is positive. The positive cash-flow coefficient indicates the presence of a financial constraint, but it does not indicate a shortage of liquidity to fund current investment. In addition, the coefficient on average q is biased downward. Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.
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