Uncertainty, Credit Risks, and Corporate Investment

This paper offers the first empirical account for the impacts of uncertainty and credit risk on corporate investment in Korea. For the empirical investigation, we propose a new approach, the risk sensitivity of investment. A new measure of firm-level uncertainty is constructed using the Black-Scholes-Merton model. Independent of credit risk, the "delevered" asset uncertainty can identify the real options effect. A sample split by debt regime identifies the role of risky debt in terms of the agency cost. The risk sensitivity approach also offers a new test for the financial constraints. The empirical findings show that financial frictions are powerful conduits of uncertainty shocks. Both the credit risk and the real options channels have significant dampening effects on investment.