The Effect of Stock Liquidity on the Firm's Investment and Production

Yakov Amihud, Shai Levi*

*Corresponding author for this work

Research output: Contribution to journalArticlepeer-review

20 Scopus citations

Abstract

We propose that stock market liquidity affects corporate investment and production. Illiquidity, which raises firms' cost of capital, lowers investment in capital assets, R&D, and inventory. This effect holds after we control for endogeneity using exogenous liquidity events, the 2001 decimalization, and the 1997 Nasdaq reform and after employing instrumental variable estimation. Illiquidity affects investment regardless of firms' financial constraints. Consequently, illiquidity induces firms to adopt less capital-intensive production processes. Illiquid firms have higher marginal productivity of capital, greater labor input increases for given increases in assets, and lower operating leverage, which means lower reliance on fixed costs.

Original languageEnglish
Pages (from-to)1094-1147
Number of pages54
JournalReview of Financial Studies
Volume36
Issue number3
DOIs
StatePublished - 1 Mar 2023

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