This paper establishes a causal relation between an individual’s decision whether to own stocks and average stock market participation of the individual’s community. We instrument for the average ownership of an individual’s community with lagged average ownership of the states in which one’s nonnative neighbors were born. Combining this instrumental variables approach with controls for individual and community fixed effects, a broad set of time-varying individual and community controls, and state-year effects rules out alternative explanations. To further establish that word-of-mouth communication drives this causal effect, we show that the results are stronger in more sociable communities. STANDARD MODELS OF PORTFOLIO CHOICE typically assume that fully informed investors make rational asset allocation decisions to maximize lifetime utility. As Ellison and Fudenberg (1995 P. 93) note, however, “economic agents must often make decisions without knowing the costs and benefits of the possible choices” and thus often “rely on whatever information they have obtained via causal word-of-mouth communication. ” Given the evidence that average U.S. citizens

We analyze the importance of Internal Revenue Service (IRS) monitoring to equity pricing in U.S. public firms. Our strong, robust evidence from large samples implies that equity financing is cheaper when the threat of an IRS audit is higher, enabling investors to learn more about the firm. Reflecting its first-order economic impact, our coefficient estimates translate into the cost of equity capital falling, on average, by 58 basis points when the expected probability of an IRS audit rises from 30.51 percent (the 25th percentile in our data) to 45.86 percent (the 75th percentile). In evidence supporting our second prediction, we find that the link between IRS oversight and equity pricing is stronger in firms with relatively poor corporate governance that experience worse agency problems. Consistent with recent theory on the corporate governance role that tax enforcement plays, our research suggests that a spillover benefit accompanying strict IRS monitoring is lower information asymmetry evident in equity financing costs.

Abstract: This paper provides evidence of a causal relation between the average stock market participation decisions of one’s community and an individual’s decision of whether to own stocks. To establish causality, we instrument for the average ownership of a non-mover’s community with the lagged average ownership of the state in which one’s non-native neighbors were born (or, more specifically, the state in which a neighbor lived when they applied for their Social Security number). Combining this instrumental variables approach with controls for individual and community fixed effects, a broad set of time-varying individual and community controls, as well as state-by-year effects, enables us to rule out alternative explanations. To further establish that this causal effect is driven by “word-of-mouth, ” we show that the results are stronger in more sociable communities. The results suggest that a ten percentagepoint increase in the stock ownership of one’s community increases an individual’s own probability of owning stock by four percentage points.

This survey of recent research in corporate finance discusses how business taxes, subsidies as well as a country's institutional development affect several important decision margins of heterogeneous firms. We argue that innovative firms, as a result of agency problems between insiders and outside investors, are most frequently finance constrained. We discuss how profit taxes reduce investment of constrained firms by their effect on cash-flow, and of unconstrained firms by their effect on the user cost of capital. Moreover, tax reform as well as tax financed R&D subsidies can enhance aggregate investment, innovation and efficiency by implicitly redistributing profits towards constrained firms where capital earns the highest return. We argue that the corporate legal form improves firms ' access to external funds. We then explain the firms ' choice between venture capital and bank financing and discuss how business taxation can affect venture capital financing on both the extensive and intensive margins. Finally, we review theory and evidence on how corporate finance may shape a country's comparative advantage in innovative industries as well as aggregate labor market performance when part of firms are finance constrained.