Employment Flexibility and Capital Structure: Evidence from a Natural Experiment

59 Pages Posted: 21 Aug 2013 Last revised: 26 Dec 2018

See all articles by Olga Kuzmina

Olga Kuzmina

New Economic School (NES); London School of Economics & Political Science (LSE) - Department of Finance; Centre for Economic Policy Research (CEPR)

Date Written: December 25, 2018

Abstract

I exploit the variation in labor market programs in Spain to show that the use of more flexible (shorter and cheaper-to-fire) employment contracts increases a firm's debt capacity by reducing its operating leverage and probability of default. I use specific institutional features to separate this explanation from the labor bargaining channel. I further show that the result is stronger for firms that suffer most in bankruptcy, and that in downturns firms downsize using flexible labor, suggesting that employment contract structure is a significant component of expected default costs and of operating flexibility. Finally, firms respond with higher flows of both credit and equity, consistent with flexible contracts also relaxing financial constraints.

Keywords: capital structure, fixed-term contracts, operating leverage, operating flexibility

JEL Classification: D22, G32, J41

Suggested Citation

Kuzmina, Olga, Employment Flexibility and Capital Structure: Evidence from a Natural Experiment (December 25, 2018). Columbia Business School Research Paper No. 13-69, Available at SSRN: https://ssrn.com/abstract=2313286 or http://dx.doi.org/10.2139/ssrn.2313286

Olga Kuzmina (Contact Author)

New Economic School (NES) ( email )

45 Skolkovskoe shosse
Moscow, Moscow 121353
Russia

HOME PAGE: http://pages.nes.ru/okuzmina/

London School of Economics & Political Science (LSE) - Department of Finance ( email )

United Kingdom

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

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