The Analytics of Investment, q, and Cash Flow

Andrew B. Abel

NBER Working Paper No. 21549
Issued in September 2015
NBER Program(s):CF, EFG, ME

In this paper I analyze the relationships among investment, q, and cash flow in a tractable stochastic model in which marginal q and average q are identically equal. After analyzing the impact of changes in the distribution of the marginal operating profit of capital, I extend the model to include measurement error and analyze the cash-flow coefficient in regressions of investment on q and cash flow. In empirical studies, the estimated cash-flow coefficient is generally positive and larger for rapidly growing firms. Such findings are typically interpreted as evidence of financial frictions facing firms. I derive closed-form expressions for the cash-flow coefficient that are positive and larger for faster growing firms, yet there are no financial frictions in the model.

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Machine-readable bibliographic record - MARC, RIS, BibTeX

Document Object Identifier (DOI): 10.3386/w21549

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