Impact of Exchange Rate Fluctuation on Capital Structure Decision; an Empirical Analysis on Manufacturing Firms

This study aims to analyze the effect of the exchange rate variation on the short-and long-term capital structure decisions of manufacturing firms in India's emerging economy. Using 2 step GMM model and a comprehensive financial data of 2575 manufacturing firms belonging to 8 different manufacturing industry sectors capital structure has been analyzed. The present study contributes to the existing literature using a quadratic function that analyses the curvilinear relationship between foreign exchange rate and capital structure. It also tries to find whether firms with financial flexibility could absorb exchange rate shocks and immunize their financial decision in the short-term vis-à-vis long-term. The results confirmed that the exchange rate has a convex relation with short- and long-term-borrowings of financially inflexible and concave links with that of financially flexible firms in the manufacturing industry. At the sector level, the exchange rate has no impact on the long-term leverage of financially flexible firms that are cash-rich firms and have sufficient liquidity. Long-term debt of financially inflexible firms have a concave relation with the exchange rate