The Effect of External Finance on the Equilibrium Allocation of Capital

Posted: 1 Sep 2004

See all articles by Heitor Almeida

Heitor Almeida

University of Illinois at Urbana-Champaign; National Bureau of Economic Research (NBER)

Daniel Wolfenzon

Columbia University - Columbia Business School, Finance; National Bureau of Economic Research (NBER); European Corporate Governance Institute (ECGI)

Abstract

We develop an equilibrium model to understand how the efficiency of capital allocation depends on outside investor protection and the external financing needs of firms. We show that when capital allocation is constrained by poor investor protection, an increase in firms' external financing needs may improve allocative efficiency by fostering the reallocation of capital from low to high productivity projects. We also find novel empirical support for this prediction.

Keywords: capital reallocation, financial development, investor protection, external finance

JEL Classification: G15, G31, D92

Suggested Citation

Almeida, Heitor and Wolfenzon, Daniel, The Effect of External Finance on the Equilibrium Allocation of Capital. Journal of Financial Economics, Forthcoming, Available at SSRN: https://ssrn.com/abstract=583341

Heitor Almeida (Contact Author)

University of Illinois at Urbana-Champaign ( email )

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HOME PAGE: http://www.business.illinois.edu/FacultyProfile/faculty_profile.aspx?ID=11357

National Bureau of Economic Research (NBER)

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Daniel Wolfenzon

Columbia University - Columbia Business School, Finance ( email )

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National Bureau of Economic Research (NBER)

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European Corporate Governance Institute (ECGI)

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Belgium

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