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Title:
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| Number: | 03-07 |
| Author: | Joerg Breitung, Robert
Chirinko and Ulf von Kalckreuth |
| Issue Date: | May 2003 |
| Abstract: | This paper proposes a new framework for studying the effects
of monetary policy on business investment. Important ambiguities
with the
modeling of investment dynamics and interactions between real and
financial decisions suggest modeling investment spending as a
VAR. Based on a panel of financial statement data for 6,408
German firms (44,345 datapoints) supplemented with user costs of
capital and confidential measures of creditworthiness, we generate GMM
estimates of a Vectorautoregressive Investment Model (VIM) containing
investment, cash flow, sales, and the user cost of capital. We report four substantive findings. First, monetary policy matters, and business investment is responsive to interest rates embedded in the user cost of capital. Second, allowing real and financial decisions to interact raises the impact of monetary policy by one-third relative to simulations of an investment equation in isolation that assumes an exogenous financial policy. Third, the sensitivity of investment to cash flow shocks is raised by two-thirds relative to single equation computations appearing in the literature. Fourth, firms with poor credit ratings are ”paralyzed" in being unable to react to changing economic conditions as given by relative prices or demand. On the other hand and consistent with binding financing constraints, these endangered firms show a high responsiveness to cash flow shocks. Apart from these substantive conclusions, this paper demonstrate that the panel VAR approach is useful for modeling firm dynamics and real/financial interactions and for assessing monetary policy transmission. |
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