Impact Of Credit Constraint On Firms’ Investment And Growth Behavior: A Case Study Of Manufacturing Sector Of Pakistan
Author: Mughees Tahir Bhalli

This study investigates the impact of credit constraint on firms’ investment and growth by using a panel of 500 firms of manufacturing sector of Pakistan over the period of 1974 to 2010. Generalized Method of Moments (GMM) one step and two step estimation technique is applied on models of investment and growth. Firms can finance investment opportunities by internal and external finance. Due to asymmetric information, especially when capital markets are imperfect, firms usually face problem in getting external finance to undertake the investment opportunities. Due to this fact firms’ investment and growth is largely driven by their internal finance. Cash flow is used as a source for internal finance for financing the available investment opportunities. Sales growth and sale to capital ratio are used as proxy to capture investment opportunities. This study constructed these variables by using firm level data obtained from more than 12,000 financial statements of the manufacturing sector of Pakistan. This study discovers the impact of credit constraint on firms’ growth and investment spending in case of 500 firms of manufacturing sector during the period 1974-2010. To explore the impact of credit constraints in different political regimes, this study divides the sample into different time periods on the basis of political regimes in the history of Pakistan form 1974-2010. Further, data is divided into periods from 1974 to 1990 and 1991 to 2010 for analyzing the impact of financial sector reforms on credit constraints, firms’ investment and growth. This study probe the prospect that either sensitivity of firms’ investment and growth to internal finance varies across different industries or not. For this purpose, the sample is divided into different industries namely textile cotton, textile synthetic, sugar and allied, chemical, engineering and cement industries. This study also explores the possibility that whether intensity of credit constraint varies across groups of firms having different characteristics such as size, dividend and debt. To achieve this objective, this study divided firms into three classes; small, medium and large on the basis of total assets, dividend to equity and debt to equity ratio. Results obtained for the full sample of manufacturing sector indicates that firms are not facing external financial constraint. Outcome for political regimes shows that investment and growth of firms is severely credit constrained during the period from 1978 to 1988. In other political regimes, no such severity is appeared. Results for financial sector reforms shows that there is impact of credit constraint on firms’ investment and growth in both the pre financial sector reform and post financial sector reform era, but the impact of credit constraint is higher in pre financial sector reform period as compared to that of the post financial reform period due to easier availability of external finance in the post reform era. Industrial analysis reveals that investment and growth of the firms in textile-cotton, textile-synthetic and sugar industries are affected from financial constraints, whereas firms in rest of the industries are not facing external financial constraint. Results reveal that impact of financial constraints on the growth of small firms, firms having low dividend to equity ratio and firms who are less aggressive in financing with debt are severe as compared to their counterparts. Supervisor:- Dr. Shahid Mansoor Hashmi

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Keywords : Credit Constraint, Firms’ Investment, Growth Behavior, Manufacturing Sector, Manufacturing Sector-Pakistan
Supervisor: Shahid Mansoor Hashmi

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