How Important is Economic Policy Uncertainty for Capital Structure Decisions? Evidence from US Firms

48 Pages Posted: 16 Jan 2018

See all articles by Xiaoming Li

Xiaoming Li

Massey University - School of Economics and Finance (Albany)

Mei Qiu

Massey University - Massey Business School

Date Written: January 15, 2018

Abstract

This study investigates the effects of economic policy uncertainty on capital structure decisions for US firms. We use all the five EPU indexes available, conduct both static and dynamic panel regression analyses, control for firm characteristics, take into account global financial episodes, and perform various coefficient restriction tests. We document strong evidence that rising economic policy uncertainty makes firms more conservative in their debt-financing decisions. This negative relationship between economic policy uncertainty and firms’ capital structure choices is much stronger, if one allows the former to determine the optimal, rather than actual, level of the latter, and allows a partial rather than a full adjustment of the actual level towards the optimal level of debt ratios. The strong EPU effects so detected even make unimportant the effects of firm characteristics on capital structure decisions, challenging the long-standing conventional wisdom.

Suggested Citation

Li, Xiaoming and Qiu, Mei, How Important is Economic Policy Uncertainty for Capital Structure Decisions? Evidence from US Firms (January 15, 2018). Available at SSRN: https://ssrn.com/abstract=3102618 or http://dx.doi.org/10.2139/ssrn.3102618

Xiaoming Li (Contact Author)

Massey University - School of Economics and Finance (Albany) ( email )

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Mei Qiu

Massey University - Massey Business School ( email )

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