Financial Constraints, Capital Structure and Investment

Evidence of financial constraints and its effects on real firm's decision in countries with advanced capital markets implies that the situation might be severe in countries with less developed capital markets. Despite this possibility, there is a dearth of evidence on the severity of the financial constraints and its effects in Kenya. This book examines firm capital structure and investment in the context of financial constraints using data from all listed manufacturing firms in Kenya. It exploits real exchange rate shock that occurred in 2011 to compare investment rate immediately before and after the shock for firms under different degrees of financial constraints. Financial constraints negatively affect investment and firm's response to shock depends on financial constraint status. Financial constraints cause young and small firms to forego external capital, underinvest, and alter their response to a positive shock. Policy should aim at broadening the scope of assets that can be pledged as collateral and, to minimize policy related distortions, financial constraints should be taken into consideration in designing the level of interventions.