Liquidity and Capital Structure: Evidence from a Bank-dominated Economy

We explore the impact of liquidity on capital structure decisions. Firms that enjoy more liquid equity experience a lower cost of equity and may be more motivated to adopt more equity and less debt in their capital structure. Consistent with this notion, the empirical evidence demonstrates an inverse relation between liquidity and leverage. Our results are especially interesting because we examine firms in Thailand, where capital markets are less sophisticated than the U.S., bank loans more prevalent, and corporate ownership much more concentrated. In spite of these differences, we document that Thai firms with more liquid equity are significantly less leveraged.