The Determinants of Corporate Liquidity: Theory and Evidence

Posted: 14 Aug 1998 Last revised: 31 Dec 2012

See all articles by David C. Mauer

David C. Mauer

affiliation not provided to SSRN

Ann E. Sherman

DePaul University

Chang-Jin Kim

Dept. of Economics, University of Washington

Date Written: December 31, 2012

Abstract

We model the firm's decision to invest in liquid assets when external financing is costly. The optimal amount of liquidity is determined by a tradeoff between the low return earned on liquid assets and the benefit of minimizing the need for costly external financing. The model predicts that the optimal investment in liquidity is increasing in the cost of external financing, the variance of future cash flows, and the return on future investment opportunities, while it is decreasing in the return differential between the firm's physical assets and liquid assets. Empirical tests on a large panel of U.S. industrial firms support the model's predictions.

JEL Classification: G31, G32

Suggested Citation

Mauer, David C. and Sherman, Ann E. and Kim, Chang-Jin, The Determinants of Corporate Liquidity: Theory and Evidence (December 31, 2012). Journal of Financial and Quantitative Analysis, September 1998, Available at SSRN: https://ssrn.com/abstract=103708

David C. Mauer (Contact Author)

affiliation not provided to SSRN

Ann E. Sherman

DePaul University ( email )

1 East Jackson Blvd.
Chicago, IL 60604-2287
United States
312-362-5499 (Phone)

Chang-Jin Kim

Dept. of Economics, University of Washington ( email )

Department of Economics (Box 353330)
University of Washington
Seattle, WA 98195-3330
United States

HOME PAGE: http://https://econ.washington.edu/people/chang-jin-kim

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