How Does Monetary Policy Uncertainty Influence Firms’ Dynamic Adjustment of Capital Structure

Abstract

This study employs high-dimensional factors model to depict the development of monetary policy uncertainty (MPU) in China over the past decades and develops a logical analytical framework to analyze the effect of MPU on the dynamic adjustment of a firm’s capital structure through bank risk-taking channels. We investigate how MPU affects dynamic adjustment of a firm’s capital structure using a panel data set of China public manufacturers between 2007 and 2018 and find that the higher the MPU, the more detrimental it is to the dynamic adjustment of firm’s capital structure. Further, bank risk-taking plays the role of a financial stabilizer. In addition to the willingness to take risks in on-balance sheet operations and the scale of loans, the risk-taking of our banks may also be reflected in the adjustment of the off-balance-sheet shadow banking scale. This study also finds that in terms of on-balance sheet business, heighten MPU decreases the scale of bank credit and tightens loan approval criteria, in terms of off-balance sheet business, heighten MPU decreases the scale of shadow banking, thereby leading to a lower dynamic adjustment of firm’s capital structure. JEL classification C13, C36, E50, G21