DP6737 Investment and Value: A Neoclassical Benchmark

Author(s): Janice Eberly, Sérgio Rebelo, Nicolas Vincent
Publication Date: March 2008
Keyword(s): Cash flow, Tobin's q
JEL(s): E22
Programme Areas: International Macroeconomics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=6737

Which investment model best fits firm-level data? To answer this question we estimate alternative models using Compustat data. Surprisingly, the two best-performing specifications are based on Hayashi's (1982) model. This model's foremost implication, that Q is a sufficient statistic for determining a firm's investment decision, has been often rejected because cash-flow and lagged-investment effects are present in investment regressions. However, we find that these regression results are quite fragile and ineffectual for evaluating model performance. So, forget what investment regressions tell you. Models based on Hayashi (1982) provide a very good description of investment behaviour at the firm level.