D --- Government spending trades-off with corporate debt financing by competing for investor funds
Wu et al ‘21
(Ruchith Dissanayake Queensland University of Technology - School of Economics and Finance Yanhui Wu Queensland University of Technology - School of Economics and Finance; Financial Research Network (FIRN) Huizhong Zhang Queensland University of Technology - School of Economics and Finance, “Military Spending Shocks and Private Sector Innovation,” pg online @ https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3082217 //um-ef)
Increases in government spending are either financed through increases in taxes or public debt. Increases in the supply of public debt reduce the demand for competing securities such as corporate bonds, pushing up the relative cost of corporate debt capital. Graham et al. (2015), for example, report that government borrowing “crowds out” corporate debt financing through competition for investor funds. Consequently, it could be the case that, following an increase in government spending, firms cut back on investment in innovation because of a rise in the cost of corporate debt financing rather than decreases in demand. We show that our results remain robust controlling for the effects of debt crowding out channel.