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postgraduate thesis: Uncertainty, capital allocation and business cycle: theory and evidence

TitleUncertainty, capital allocation and business cycle: theory and evidence
Authors
Advisors
Advisor(s):Suen, WC
Issue Date2012
PublisherThe University of Hong Kong (Pokfulam, Hong Kong)
AbstractThis thesis consists of two essays analyzing the effect of uncertainty in macroeconomic and financial settings. Inspired by the counter-cyclical pattern of uncertainty and the role played by capital reallocation in Total Factor Productivity, we propose a theoretical viewpoint on uncertainty-driven business cycles in the first essay. Relying on the interaction between financial market and real sector, we are able to build up a transmission mechanism from uncertainty to business cycle by introducing a financial contract between firms and financial intermediaries. By setting up two types of firm with different production technology in a general equilibrium model, we show that information asymmetry leads firms with financing needs to be financially constrained. Due to information asymmetry, first best case is unachievable and production resources are allocated more to firms without financing needs. When uncertainty changes, the lending decision of financial intermediary also changes, further affecting firms’ production capacities. Production resources are reallocated between the two types of firms which generates fluctuations in TFP and other aggregates. More importantly, firms with financing needs is assumed with better production technology than the one adopted by the other type on average. Increase in uncertainty worsens the informational problem, reduces funds provided to firms with better technology, causes reallocation of resources to the other type, and further decreases productivity of the economy as a whole. This is in line with an economic downturn and also consistent with the counter-cyclicality of uncertainty. We also conduct a quantitative analysis by calibrating the model to the data and the estimated results provide corroborating evidence for the theory. Using a merged data-set of US firms during years 1971-2008, we empirically examine the impact of uncertainty on capital reallocation via financial friction in the second essay. By adopting KZ index as an indicator for firms’ financial statuses, we decompose the uncertainty-capital reallocation relation into three hypotheses. Using cross-sectional dispersion of stock return as a measure for uncertainty, we find that uncertainty is negatively associated with firms’ financial statuses. A firm with high uncertainty level is more likely to be in a low position of financial status. Second, uncertainty is in a negative relation with capital reallocation, which means capital reallocation decreases at firm level when uncertainty increases. Third, by sorting firms into different groups based on their financial statuses, we find that firms which are in worse financial situation are more responsive to uncertainty change. The finding is consistent with our prediction that uncertainty affects capital reallocation through financial friction. We employ both reduced-form and structural estimation strategies to examine our predictions, and all regression results are supportive. To further test the role of financial friction in the relation, we also sort firms into different groups by SIC code. And we find that, firms in industries relying more on financial market for external financing are more responsive to uncertainty change.
DegreeDoctor of Philosophy
SubjectUncertainty.
Asset allocation.
Business cycles.
Dept/ProgramEconomics and Finance

 

DC FieldValueLanguage
dc.contributor.advisorSuen, WC-
dc.contributor.authorYang, Qin-
dc.contributor.author杨琴-
dc.date.issued2012-
dc.description.abstractThis thesis consists of two essays analyzing the effect of uncertainty in macroeconomic and financial settings. Inspired by the counter-cyclical pattern of uncertainty and the role played by capital reallocation in Total Factor Productivity, we propose a theoretical viewpoint on uncertainty-driven business cycles in the first essay. Relying on the interaction between financial market and real sector, we are able to build up a transmission mechanism from uncertainty to business cycle by introducing a financial contract between firms and financial intermediaries. By setting up two types of firm with different production technology in a general equilibrium model, we show that information asymmetry leads firms with financing needs to be financially constrained. Due to information asymmetry, first best case is unachievable and production resources are allocated more to firms without financing needs. When uncertainty changes, the lending decision of financial intermediary also changes, further affecting firms’ production capacities. Production resources are reallocated between the two types of firms which generates fluctuations in TFP and other aggregates. More importantly, firms with financing needs is assumed with better production technology than the one adopted by the other type on average. Increase in uncertainty worsens the informational problem, reduces funds provided to firms with better technology, causes reallocation of resources to the other type, and further decreases productivity of the economy as a whole. This is in line with an economic downturn and also consistent with the counter-cyclicality of uncertainty. We also conduct a quantitative analysis by calibrating the model to the data and the estimated results provide corroborating evidence for the theory. Using a merged data-set of US firms during years 1971-2008, we empirically examine the impact of uncertainty on capital reallocation via financial friction in the second essay. By adopting KZ index as an indicator for firms’ financial statuses, we decompose the uncertainty-capital reallocation relation into three hypotheses. Using cross-sectional dispersion of stock return as a measure for uncertainty, we find that uncertainty is negatively associated with firms’ financial statuses. A firm with high uncertainty level is more likely to be in a low position of financial status. Second, uncertainty is in a negative relation with capital reallocation, which means capital reallocation decreases at firm level when uncertainty increases. Third, by sorting firms into different groups based on their financial statuses, we find that firms which are in worse financial situation are more responsive to uncertainty change. The finding is consistent with our prediction that uncertainty affects capital reallocation through financial friction. We employ both reduced-form and structural estimation strategies to examine our predictions, and all regression results are supportive. To further test the role of financial friction in the relation, we also sort firms into different groups by SIC code. And we find that, firms in industries relying more on financial market for external financing are more responsive to uncertainty change.-
dc.languageeng-
dc.publisherThe University of Hong Kong (Pokfulam, Hong Kong)-
dc.relation.ispartofHKU Theses Online (HKUTO)-
dc.rightsThe author retains all proprietary rights, (such as patent rights) and the right to use in future works.-
dc.rightsCreative Commons: Attribution 3.0 Hong Kong License-
dc.source.urihttp://hub.hku.hk/bib/B48199382-
dc.subject.lcshUncertainty.-
dc.subject.lcshAsset allocation.-
dc.subject.lcshBusiness cycles.-
dc.titleUncertainty, capital allocation and business cycle: theory and evidence-
dc.typePG_Thesis-
dc.identifier.hkulb4819938-
dc.description.thesisnameDoctor of Philosophy-
dc.description.thesislevelDoctoral-
dc.description.thesisdisciplineEconomics and Finance-
dc.description.naturepublished_or_final_version-
dc.identifier.doi10.5353/th_b4819938-
dc.date.hkucongregation2012-

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