13.02.2017 - Studies

It´s the WACC, stupid!

by Thomas Mayer, Agnieszka Gehringer

In the wake of the Great Financial Crisis central banks have made strong efforts to lift investment spending of companies by depressing interest rates. Their intention was to stimulate lending for investment purposes so as to revive growth and lift inflation to their targets. However, investment has not responded as expected. By focusing on standard measures of interest rates, central banks neglected the fact that it is the weighted average costs of capital (WACC) rather than interest rates on debt capital that have a significant influence on investment. Whereas interest rates have declined, WACC have not moved down in tandem, supporting the theorem of the constant cost of capital. Hence, both theory and empirical analysis suggest that the low interest rate policy of central banks has been ineffective in raising investment.

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