London Business School
Toni M. Whited
University of Michigan, Stephen M. Ross School of Business; National Bureau of Economic Research
June 16, 2003
We develop a dynamic model of financial and investment policy with corporate and individual taxes, costly equity issuance, and debt constraints. The dynamic framework allows us to explain a number of empirical findings inconsistent with static tax-based theories. We show that: 1) there is no target leverage ratio; 2) firms can be savers or heavily levered; 3) leverage is path dependent and exhibits hysteresis; 4) leverage is decreasing in lagged liquidity; and 5) leverage varies negatively with an external finance weighted-average Q ratio. In the empirical section, we estimate key structural parameters using a simulation estimator.
Number of Pages in PDF File: 62
Keywords: Capital structure, taxes, dynamic model, indirect inference
JEL Classification: G32,G31
Date posted: July 21, 2003
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