Narrow Results

Analyzing financial development and investment in Turkey between 1960 and 2008, this paper illustrates how financial development affects investment decisions in a dynamic model of the firm under financial frictions. A composite index is constructed of three alternative financial development measures. The bounds testing approach was used to test for the existence of long-run levels relationships and long-run levels relationships were estimated using the autoregressive distributed lag method. Both short- and long-run causality tests were performed. Results indicate that financial development, budget balance, and total credit to the private sector positively and significantly affect investment.

This study examines the corporate credit spread of a firm that is constrained by an upper limit of debt issuance depending on the liquidation (collateral) value. We provide four important results. First, the upper limit of debt issuance may induce the firm to issue riskless (risk-free) debt. Second, the upper limit decreases the credit spread. Third, the credit spread increases with the liquidation value when the firm is financially constrained, while the credit spread decreases with the liquidation value when it is not. Fourth, the firm is likely to be financially constrained when cash flow volatility is high, the risk-free interest rate is low, corporate tax is high, and bankruptcy cost is high. Our results fit well with empirical studies.

This paper presents a new explanation of why the growth effect of inflation reported in the literature is an inverted-U relationship with considerations of lower bound on bank lending rates. We integrate a non-zero lower bound on the lending rate in the discussion and show the effect of inflation on optimal bank loan contracts. This paper believes that informational friction is a source of the negative relationship between inflation and growth when the loan rate constraint is non-binding. Besides, it finds out that once this loan rate constraint is binding, increasing inflation can reduce the real cost of financing capital investment and then contribute to growth. This paper also proves that the non-zero lower limit can only be reached at the low rate of inflation. It implies developing countries that are more likely to have low capital conversion efficiency and high transaction cost would hold a higher inflation-growth nexus than developed countries.