We develop a dynamic model with time variation in external equity financing costs and show that variation in these costs is important for the model to quantitatively capture the joint dynamics of firms' asset prices, real quantities, and financial flows in the U.S. economy. Growth firms and high investment firms are less risky in equilibrium, because they can substitute more easily debt financing for equity financing when it becomes more costly to raise external equity, which are high marginal utility states. Using a model-implied proxy of aggregate equity issuance cost shocks, we provide empirical support for the model's economic mechanism. Received August 7, 2017; editorial decision September 24, 2018 by Editor Stijn Van Nieuwerburgh. Authors have furnished an Internet Appendix, which is available on the Oxford University Press Web site next to the link to the final published paper online.
Bibliographical noteFunding Information:
We thank Kenneth Ahern, Hengjie Ai, Hang Bai, Juliane Begeneau, Jonathan B. Cohn, Andrea Eisfeldt, Wayne Ferson, Murray Frank, Itay Goldstein, João Gomes, John Graham, Gerard Hoberg, Jarrad Harford, Kewei Hou, Christian Julliard, Erik Loualiche (WFA discussant), Paulo Maio, Daniel Paravisini, Vincenzo Quadrini (NBER Capital Markets and the Macroeconomy discussant), Michael Roberts, Juliana Salomao, Amit Seru, Raj Singh, Ken Singleton, Rene Stulz, Andrea Tamoni, Sheridan Titman, Stijn Van Nieuwerburgh (Macro-Finance Society Workshop discussant), Neng Wang, Mike Weisbach, Amir Yaron, Jianfeng Yu, Harold Zhang, and Lu Zhang for their comments. We also thank seminar participants at the BI Norwegian Business School, Aalto University and Hanken School of Economics, Carnegie Mellon University, Ohio State University, University of British Columbia, University of Minnesota, University of Southern California, University of Rochester, University of Texas at Austin, University of Texas at Dallas, University of Toronto, Vienna Graduate School of Finance, China International Conference in Finance (2014), Macro-Finance Society Workshop (2014), SED (2014), and WFA (2014). We thank Vincenzo Quadrini and Ryan Israelsen, for providing us the data on collateral constraint shocks, and quality-adjusted investment prices, respectively. Fan Yang acknowledges the financial support from a GRF grant from Research Grants Council of Hong Kong. All errors are our own. Supplementary data can be found on The Review of Financial Studies Web site. Send correspondence to Frederico Belo, INSEAD, Boulevard de Constance, 77300 Fontainebleau, France; telephone: (+33) 0160724524. E-mail: email@example.com © The Author(s) 2018. Published by Oxford University Press on behalf of The Society for Financial Studies. All rights reserved. For permissions, please e-mail: firstname.lastname@example.org. doi:10.1093/rfs/hhy128 Advance Access publication December 7, 2018
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