Asset Price Shocks, Financial Constraints, and Investment: Evidence from Japan

We examine corporate investment spending around the asset price bubble in Japan in the late 1980s and make three contributions to our understanding of how stock valuations affect investment. First, investment responds significantly to nonfundamental components of stock valuations during asset price shocks; fundamentals matter less. Clearly, the stock market is not a sideshow. Second, the time series variation in the investment cash flow sensitivity is affected more by changes in monetary policy than by shifts in collateral values. Third, asset price shocks primarily affect firms that rely more on bank financing and not necessarily those that use equity financing.