Contract Enforcement and the Allocation of Capital

Abstract

This paper provides empirical evidence that contract enforcement matters for the flow of investment or allocation of capital. Using the estimated investment elasticities as the measure of capital allocation efficiency, we find that better contract enforcement is associated with more efficient allocation of capital, and this effect is more pronounced in industries which are more contract intensive. The results are robust to possible endogeneity, omitted variables bias, and outliers.

Keywords: Capital Allocation, Contracts, Institutions, Investment

JEL Classification: E22, G31, D92, K12