Testing Static Trade-off Against Pecking Order Models of Capital Structure

Lakshmi Shyam-Sunder, Stewart C. Myers

1994

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DOI 10.3386/w4722
Data confidence 70 medium
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Abstract

This paper tests traditional capital structure models against the alternative of a pecking order model of corporate fmancing.The basic pecking order model, which predicts external debt fmancing driven by the internal fmanciai deficit, has much greater explanatory power than a static trade-off model which predicts that each firm adjusts toward an optimal debt ratio.We show that the power of some usual tests of the trade-off model is virtually nil.We question whether the available empirical evidence supports the notion of an optimal debt ratio.