An Empirical Application of the EVA® Framework to Business Cycles

Abstract

Following financial concepts like duration and economic value added (EVA®) we estimate the impact of interest rate movements on firms that are more and less roundabout. We find that firms that are more roundabout, that is, work with expected cash-flows with higher duration, are more sensitive to interest rate movements. To the extent that monetary policy is able to move the discount rate used by investors, monetary policy changes the relative present value of any investment project and therefore affects resource allocation. We show evidence that this effect is present in the U.S. in the years prior to the subprime crisis.

Keywords: business cycles, EVA, economic value added, average period of production, roundaboutness

JEL Classification: E32, E43, G00