Modeling Firm Dynamics to Identify the Cost of Financing Constraints in Ghanaian Manufacturing

Economic development requires the growth of productive …rms. However, …nancing constraints may limit …rms’investment abilities. This paper estimates the cost of …nancing constraints to …rms, for example in terms of idle investment opportunities, and their aggregate implications. To this end, I develop and estimate a dynamic model of …rm-level investment. The model allows me to deal with the main identi…cation problem faced by work that studies …nancing constraints, namely to identify the investment opportunities and the constraints of a …rm separately. The model also allows for other potential explanations of the observed phenomenon, in particular adjustment costs and uncertainty. I solve the model using dynamic programming methods and estimate it via simulation methods, using …rm level data from Ghana. Counterfactual analyses are then carried out to quantify the importance of …nancing constraints. These counterfactuals indicate that removing the constraints would imply economically signi…cant increases in investment that are associated with higher levels of consumption. I am grateful to Steve Berry, Chris Timmins, and Chris Udry for advice throughout this project. I also would like to thank Pat Bayer, Sigga Benediktsdottir, Hanming Fang, Garth Frazer, Nicola Fuchs-Schündeln, George Hall, Ethan Ligon, John Rust, and participants at several workshops for very helpful comments. I thank Cletus Kosiba and his colleagues at the Association of Ghana Industries and Abena Oduro for support during my …eld work in Ghana. I thank Francis Teal and the Centre for the Study of African Economies, Oxford University, for sharing the data. Address: Department of Economics, Harvard University, 1875 Cambridge St, Cambridge, MA 02138. Email: [email protected]