Estimating Firm Growth and Efficiency Using a Fiscal Consolidation Approach

Financial Theory, Investment Theory, Alternative Theory: these are but some of the many titles that Finance theory refers to. The main aim of the book is to give a sensible theoretical framework to investors so that they can better understand investment issues. It has been observed that strong financial insight is directly related to firm growth and hence, the paper uncovers how financial Leverage is directly and negatively associated to firm investment. It is further seen that the effect of leveraged investment on firm investment is very significant for medium information asymmetric companies.

Firm Investment

The paper also examines the link between firm investment and economic growth. The main outcome is that while firms with more financial expertise tend to flourish, those with less experience lag behind. On the other hand, the more financially advanced firms do not necessarily outperform those with weaker brands in terms of economic freedom and domestic credit freedom. However, when looking at both aspects separately, it can be concluded that financial expertise is related to both positive and negative outcomes. The paper then goes on to examine the effects of leveraged investments on firm growth.

The paper first examines the capital structure as a basis for analyzing investment behavior. Capital comes in two forms-those invested in plant and raw materials and those invested in fixed assets such as capital equipment and real estate properties. Based on the theoretical framework provided by Barrow andkaya (eds), the analysis focuses on the relationship between the size of a firm and its ability to exploit financial growth opportunities. Leveraging capital enables firms to grow by adding more inputs into their production process and raising the level of fixed assets.

Following this, the authors analyze the implications of equity and retained earnings changes in determining the value of a firm. They use a multiple regression analysis to test for a direct and positive relationship between firm valuation and cash flow. Their regression results show that firms with higher levels of equity have, on average, lower spending and a lower rate of retained earnings collection. They argue that this observation supports the view that investment depends not just on relative equity but also on unobservable factors such as firm age, industry, cyclical business cycles and sectoral fluctuations.

The regression result holds particularly true for firm age, as firms with younger employees tend to invest more money on fixed assets than older ones. In addition, firms with a higher level of service and sales are likely to spend more on fixed capital. Finally, the authors examine the effect of the stock price on firm growth rates using a simple logistic regression. They find that a company’s ability to accumulate and utilize cash increases with its stock price-expectations of earnings per share or PEG per dollar rise are positively and negatively correlated with logistic regression results.

The paper then turns to the issues of credit and liquidity to assess the effects of fiscal consolidation on economic freedom. One feature of past studies has been the use of fixed expenditure as the proxy for fiscal restraint. Using fiscal space as an indicator of fiscal restraint, then estimating the effects of a consolidation process is quite straightforward. To do so, a model is fit using the existing economic portfolio as the inputs. Once all the potential outcomes are estimated, the model is fit using data on historical fiscal policy and current policy settings for all countries, time periods studied, variables defined to correspond to country characteristics, and measures of equity, savings, and other domestic liabilities. The results are then compared with the parameters estimated from theoretical assumptions of policy and model fit and found to be robustly consistent with the theoretical predictions.