Question: Rajan and Zingle (1995) finds that firms in the United Kingdom and Germany appear to be substantially less leveraged than firms in the other G7 countries. Based on your reading, discuss the institutional difference across those countries and how it affects the leverage choice.

Expert answer

One of the key findings from Rajan and Zingle's article is that firms in the United Kingdom and Germany appear to be substantially less leveraged than firms in other G7 countries. There are a number of potential explanations for this finding.

First, it is possible that institutional differences across countries play a role in determining firms' leverage choices. For example, the legal and regulatory environment in the UK and Germany may make it more difficult for firms to raise debt financing. Alternatively, cultural factors could also be at play; businesses in the UK and Germany may simply be more reluctant to take on debt than their counterparts in other countries.

Second, another explanation for the lower leverage levels in the UK and Germany could be that these countries have a higher proportion of family-owned businesses. Family firms tend to be more conservative in their financial decision-making, and this may lead them to use less leverage.

Finally, it is also possible that the lower leverage levels in the UK and Germany are simply a function of these countries' economic cycles. In recessions, firms tend to deleverage in order to reduce their financial risk. Given that the UK and Germany have both been through periods of economic turmoil in recent years (e.g. the Brexit vote and the Euro crisis), this could explain why their firms are currently less leveraged than those in other countries.

In conclusion, there are a number of potential explanations for why firms in the UK and Germany appear to be less leveraged than those in other G7 countries. Further research is needed to determine which of these factors is most important in explaining this finding.