Differential Cash Constraints, Financial Leverage and the Demand for Money by Firms in a Developing Country

This paper studies firms ’ demand for money by developing a differential-cash-constraint framework with firms ’ entire wage bills requiring cash in advance and a fraction of investment purchases being financed by credits. In addition to conventional scale and opportunity-cost factors, firms ’ financial status and profitability are crucial determinants for their money demand behavior. Employing a new data set consisting of a panel of Taiwanese firms over 1990-97, our econometric analysis lends empirical support to our theory. The estimates suggest that economies of scale in firms ’ cash management are present and that lower financial leverage or higher profitability raises money demand significantly