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Financial Constraints, Uses of Funds, and Firm Growth: An International Comparison



Authors: Asli Demirguc-Kunt; Vojislav Maksimovic
Publisher: Policy Research Working Papers, World Bank, 1999

Full text of document

The findings suggest that across very different financial systems, financial markets and intermediaries have a comparative advantage in funding short-term investment. An active, though not necessarily large, stock market and high scores on an index of respect for legal norms are associated with faster than predicted rates of firm growth. Government subsidies to industry do not increase the proportion of firms growing faster than predicted.

Demirguc-Kunt and Maksimovic focus on two issues. First, they examine whether firms in different countries finance long-term and short-term investment similarly. Second, they investigate whether differences in financial systems and legal institutions across countries are reflected in the ability of firms to grow faster than they might have by relying on their internal resources or short-term borrowing.

Across their sample, they find:

  • Positive correlations between investment in plant and equipment and retained earnings.

  • Negative correlations between investment in plant and equipment and external financing.

  • Negative correlations between investment in short-term assets and retained earnings.

    Positive correlations between investment in short-term assets and external financing.

    These findings suggest that across very different financial systems, financial markets and intermediaries have a comparative advantage in funding short-term investment.

    For each firm in their sample, they estimate a predicted rate at which it can grow if it does not rely on long-term external financing. They show that the proportion of firms that grow faster than the predicted rate in each country is associated with specific features of the legal system, financial markets, and institutions.

    An active, though not necessarily large, stock market and high scores on an index of respect for legal norms are associated with faster than predicted rates of firm growth.

    They present evidence that the law and order index measures the ability of creditors and debtors to enter into long-term contracts. Government subsidies to industry do not increase the proportion of firms growing faster than predicted.

    This paper, a product of the Finance and Private Sector Development Division, Policy Research Department, is part of a larger effort in the department to understand the impact of financial constraints on firm growth. Copies of the paper are available free from the World Bank, 1818 H Street NW, Washington, DC 20433. Please contact Paulina Sintim-Aboagye, room N9030, telephone 2024737644, fax 2025221155, Internet address psintimaboagye@worldbank.org. (49 pages)

    The full report is available on the World Bank FTP server

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