Cognitive Bias and Capital Structure in Emerging Markets: Evidence from Chinese Listed Companies

Kejing Chen, Yanxi Li, Kung'unde Marco, Wenzhang Sun,

Article

We study the influence of managerial cognitive bias on corporate debt policy in China. We develop a theoretical model of capital structure that incorporates tax benefits of debt and predicts how managerial cognitive bias can lead to suboptimal capital structure choices. We find that when managerial cognitive bias is severe, the firm tends to choose overly-conservative or overly-aggressive debt levels, and the debt level is unrelated to the tax rate. In contrast, when managerial cognitive bias is mild, the firm responds to the tax benefit of debt and tends to choose a debt level that is positively related to the tax rate. We contribute to the literature by introducing managerial cognitive bias into the decision making process. We study how cognitive bias can affect capital structure decisions by incorporating the prospect theory in developing a capital structure model.

Keywords

Round Building

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