An Empirical Analysis of Access to Finance for Danish Farms: Understanding Investment and the Absence of Risk Management

Abstract

Investments have often been highlighted as playing a central role in economic growth (Hart & Lence, 2004). That is why a fundamental question in the financial literature is to what extent funds are allocated to the right investment projects. Financial constraints have been a central focus in the corporate finance literature because of, among other things, the possible public policy implications for mitigation of misallocation of investments, specifically underinvestment (Hubbard, 1998). In the development and agricultural economics literature, the existence and importance of financial con-straints have been examined as well (Hubbard & Kashyap, 1992; Benjamin & Phimister, 1997; Petrick, 2005). Since the late 1980s, a large number of empirical studies have addressed the ques-tion of financial constraints using a variety of research strategies. Many models are based on Tobin’s q as an investment opportunity proxy to test whether investment opportunities are exercised according to assumptions of the frictionless market or not. Tobin’s q is essentially a measure of the market value to the book value. The use of q-based models is widespread in the corporate finance and investment literature. (Fazzari, Hubbard, & Petersen, 1988) (FHP); (Kaplan & Zingales, 1997) (KZ); (FHP, 2000); (KZ, 2000); (Reynolds, Bhabra, & Boyle, 2009). The majority of studies in the field address the case of binding financial constraints versus unbinding financial constraints as dis-continues measure, where Musso & Schiavo (2008) suggest a continues measure capable of captur-ing different degrees of constraints over time. Instead of providing further evidence of financial constraints, we wish to measure the development of financial frictions over time. We develop a non-parametric measure suited to track the develop-ment in access to finance over time. We use the “access to finance” concept to cover a broader spectrum of financial “states of nature” than financial constraints. Access to finance is also used in more qualitative surveys like the European Central Bank’s surveys (ECB 2009) on access to finance of small and medium-sized enterprises in the Euro area. Our measure is a quantitative complement to this kind of qualitative survey. This is interesting because the opposite aspect of strictly binding financial constraints is of importance in Danish agriculture, that is, the relative unconstrainedness of the sector and individual firms. Whilst other studies measure the costs of being constrained, we are interested in the investments and risk management decisions being made when firms are (relatively) unconstrained. The overall measure is labelled the Debt Development index (DDi) which can be decomposed into four components. Investments in Danish agriculture have been larger in the past decades and they have, to a large and increasing extent, been financed by external funds. This sug-gests that the ease of access to external financial funds has been increasing over a long period of time. Due to the global financial crisis, it is expected that the ease of access to external funds will deteriorate for Danish agriculture. The shift from a period of relative ease of access to external funds to a period with harder access to external funds has not been a central focus in any studies to our knowledge. The shift may, however, be a likely development in the post crisis period. The objective of the paper is, 1) to propose an alternative method to measure access to finance, 2) to measure the development in access to finance for Danish agriculture over time, and to test whether access to finance has become easier, as suggested above, 3) to propose that easy access to finance in the past decades has diminished the need for risk management in Danish agriculture. The outline of the paper is as follows: Section 2 describes the relation between investment, risk management and finance and why it is of interest to determine the development of access to fi-nance. Section 3 explains the method. Section 4 describes our data. Section 5 presents the empirical results. Section 6 presents our concluding remarks.