The Role of Financial Institutions on Real Outcomes
Berger, Elizabeth A.
Doctor of Philosophy
This dissertation contains three chapters. The first chapter studies the causal effect of local bank financing on employment growth in service occupations. Using changes in liquor laws as quasi-exogenous shifts in labor-intensive economic opportunities, I document that service employment increases most in areas with high local finance. Young firms (ages 2-3) account for over one-third of this employment growth. County and year fixed effects, a matching procedure, and a battery of robustness tests suggest that the findings are not driven by unobserved confounding factors. Further analysis reveals that local finance is correlated with recent employment patterns in the aggregate US labor market that have fundamentally shifted labor market outcomes in recent decades. The second chapter examines the role of stock market prices on firm investment decisions. A growing body of empirical finance research uses mutual fund liquidity trading as an exogenous shock to stock prices to measure the causal effects of stock prices on corporate policies. This paper shows that these shocks are not exogenous to stock prices. They violate as-if random assignment required for valid causal inference resulting in severe covariate imbalance between treatment and control firms, particularly in size, returns, and liquidity. These covariates directly affect corporate policies, ultimately creating an omitted variables bias. In a balanced sample, I document that covariate imbalance between treatment and firm characteristics drives prior results that document causal effects of stock prices on payout and equity financing. The third chapter assesses how incumbent firms respond to abrupt increases in product market competition. Theory predicts that incumbent firms can either deter new competitors by making irreversible investments or accommodate new competitors by making reversible investments. I test this theory using a quasi-experimental setting in which bars and restaurants face higher competition following changes in alcohol laws. On average, the results support the accommodation strategy; incumbent firms increase employment investment. However, in the most competitive product markets, incumbent firms reduce irreversible investment thereby contradicting the deterrent investment hypothesis. Moreover, these markets become both more competitive and more concentrated, a result that challenges the common theoretical assumption that higher competition leads to lower concentration.