Alleviate Financing Constraints Research Articles

Financing Constraints and Entrepreneurship

Financing constraints are one of the biggest concerns impacting potential entrepreneurs around the world. Given the important role that entrepreneurship is believed to play in the process of economic growth, alleviating financing constraints for would-be entrepreneurs is also an important goal for policymakers worldwide. We review two major streams of research examining the relevance of financing constraints for entrepreneurship. We then introduce a framework that provides a unified perspective on these research streams, thereby highlighting some important areas for future research and policy analysis in entrepreneurial finance.

Financial Development, Financial Structure and Domestic Investment:International Evidence

Does it matter for domestic investment whether a country's financial system is bank based or stock-market based? This paper posits that financial intermediation affects domestic investment notably by alleviating financing constraints, allowing firms to increase investment in response to increased demand for output. The key result is that the structure of the financial system has no independent effect on investment, in the sense that it does not enhance the response of investment to changes in output, while financial development makes investment more responsive to output growth. Consequently, rather than promoting a particular type of financial structure, countries should implement policies that reduce transactions costs in financial intermediation and enforce creditor and investor rights. This will facilitate the development of banks and stock markets, which will stimulate domestic investment.

Financial development, financial structure, and domestic investment: International evidence

Does it matter for domestic investment whether a country's financial system is bank-based or stock-market based? This paper posits that financial intermediation affects domestic investment notably by alleviating financing constraints, allowing firms to increase investment in response to increased demand for output. The key result is that the structure of the financial system has no independent effect on investment, in the sense that it does not enhance the response of investment to changes in output, while financial development makes investment more responsive to output growth. Consequently, rather than promoting a particular type of financial structure, countries should implement policies that reduce transactions costs in financial intermediation and enforce creditor and investor rights. This will facilitate the development of banks and stock markets, which will stimulate domestic investment.

Investment, Overhang, and Tax Policy

THE PAST DECADE HAS seen an unusual pattern of investment. The boom of the 1990s generated unusually high investment rates, particularly in equipment, and the bust of the 2000s witnessed an unusually large decline in investment. A drop in equipment investment normally accounts for about 10 to 20 percent of the decline in GDP during a recession; in the 2001 recession, however, it accounted for 120 percent. (1) In the public mind, the recent boom and bust in investment are directly linked due to overhang. Although the term is not very precisely defined, this view generally holds that excess investment in the 1990s, fueled by an asset price bubble, left corporations with excess capital stocks, and therefore no demand for investment, during the 2000s. The popular view also holds that these conditions will continue until normal economic growth eliminates the overhang and, consequently, that there is little policymakers can do to remedy the situation, by subsidizing investment with tax policy, for example. Variants on this view have been espoused by private sector analysts and economists, (2) and the notion of a capital overhang has certainly been on the minds of leading Federal Reserve officials and researchers. (3) Whether or not a capital overhang is the true explanation of the investment bust, it is clear that the drop in investment has motivated policymakers to try to stimulate investment through ambitious fiscal policy changes. (4) Under President George W. Bush, depreciation allowances for equipment investment have been increased twice, in 2002 and 2003, and in 2003 the tax rate on dividend income was cut sharply and that on capital gains income more modestly. These measures were mainly intended to increase after-tax returns and stimulate investment. The typical analysis of the investment collapse and policy response is summarized by the Republican chairman of the Joint Economic Committee: Excessive and bad business investments made during the stock market bubble have taken years to liquidate. In nine of the 10 quarters beginning with the fourth quarter of 2000, real business investment has declined. Fortunately, recent tax legislation signed into law in 2003 should promote business investment by increasing the after-tax returns from investing in capital assets and alleviating financing constraints among small and medium-size firms. (5) Yet, after several years of tax cuts, investment has still not risen impressively compared with previous recoveries. This contrast has reignited claims that tax policy is ineffective at stimulating investment, although some make the more specific charge that tax policy is impotent when it follows a period of excessive investment. This paper examines the evidence on the two related issues of capital overhang and taxes using data at the industry, the asset, and especially the firm level. Specifically, we address two questions: first, did over-investment in the 1990s cause the low investment of the 2000s, and, second, did investment in the 2000s become less sensitive to prices, and does this explain why tax policies, specifically the equipment expensing and the dividend tax cuts of 2002 and 2003, seem to have been ineffective in restoring investment to normal levels? We begin by examining the degree to which growth in investment during the boom was correlated with a decline in investment during the bust across different assets and industries. There are, of course, many possible definitions of overhang or excess investment. We will not try to show that there was no overoptimism in product or capital markets. Clearly equity prices rose substantially and then fell, as did investment rates. Instead we investigate whether investment grew the most in those assets and industries in which it subsequently declined the most. We want to know if any aftereffects of the investment boom of the 1990s persisted into the 2000s--whether firms behaved differently because too much capital remained from the investment decisions of the 1990s. …

Aid Flows and “Dutch Disease” in a General Equilibrium Framework for Pakistan

The impact of development aid has been mainly studied through one-sector and or partial equilibrium models, such as the two-gap framework, “Dutch disease” models, and fiscal response models. These approaches tend to capture inadequately the general equilibrium effects of aid inflows, resulting from income and relative price responses, as well as from the effects on the financial constraints on investment by public and private sector agents in the economy. This article applies a multisectoral general equilibrium framework with a full specification of financial sector relations to Pakistan, overcoming the indicated shortcomings. The model tries to capture the Pakistan economy characterized by commodity and financial market imperfections and structural differences in savings and investment behavior of institutional agents. Model simulations suggest aid inflows tend to generate fairly strong Dutch disease effects in the case of Pakistan. However, more use of aid inflows to alleviate financing constraints on investment of household firms, which are mainly active in traded goods production, could mitigate the Dutch disease effects, whereas nominal exchange rate adjustment appears counterproductive. Comparative country analysis applying similar CGE models for Mexico, the Philippines, and Thailand indicates that the findings for Pakistan are not easily generalizable and depend strongly on the existing economic structure, investment and savings behavior of institutional agents, and the allocation additional capital inflows among public and private sector agents