Abstract
We study how longer bankruptcy trials affect the size, structure and allocation of corporate capital. Exploiting a legal reform that reorganised the judicial districts in Italy, we find that the interquantile reduction in the length of bankruptcy trials increases the firm's capital stock and capital intensity of production by more than 10%. Significantly, our results provide two novel findings on the real and allocational effects of legal institutions. First, poor enforcement of financial contracts leads firms to under-allocate capital in intangible assets. Second, it exacerbates misallocation by preventing the optimal allocation of physical and intangible assets towards firms with high capital return.
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