55 Pages Posted: 8 Dec 2015 Last revised: 27 May 2017
Date Written: June 30, 2016
We estimate the real losses that accrue from the cross-sectional misallocation of financial liabilities by extending the framework of Hsieh and Klenow (2009) to the liabilities side of the balance sheet. Using manufacturing firm data from the United States and China, we find significant misallocation of debt and equity. Although financial liabilities appear well allocated in the United States, they are not in China. If China’s debt and equity markets were as developed as those in the United States, China would realize gains of 40%-55% in terms of real firm value-added. We estimate firm-level costs of debt and equity, inclusive of allocation distortions. In China, we find markedly lower costs for larger firms and firms located in more developed cities.
Keywords: misallocation, cross-sectional efficiency, capital structure
JEL Classification: G32, O11, O16
Suggested Citation: Suggested Citation
Whited, Toni M. and Zhao, Jake, The Misallocation of Finance (June 30, 2016). Ross School of Business Paper No. 1295. Available at SSRN: https://ssrn.com/abstract=2699817