Tax Policy and Corporate Borrowing

Aggregate statistics readily indicate why so many observers of financial markets in the United States are concerned about the balance between debt and equity in the corporate financial decision. Exceeding zero in most years before 1984, net equity issues by U.S. nonfinancial corporations have been negative in each year since. Net redemptions averaged approximately $80 billion annually during the period 1984-87, and then rose in 1988 to $131 billion. Over the same period, net new borrowing by the nonfinancial corporate sector rose sharply, with outstanding credit market debt growing annually by nearly $170 billion during 1984-87 and by $189 billion in 1988 (Board of Governors of the Federal Reserve System 1989). Debt-equity ratios can be calculated in many ways, however, and not every measure provides such a sharp picture of recent events. The change in the value of corporate equity over any period equals net equity issues plus changes in the value of existing equity. Because of the strong performance of the stock market during the 1980s, the ratio of the stock of debt to the stock of equity, measured at market value, began rising only in 1987, the year of the stock market crash. Although little consensus exists about how debt-equity ratios should be measured to evaluate recent events, the continuing strength