This IMF Working Paper examines the relationship between financial heterogeneity, investment, and firm interactions. The author argues that interactions among heterogeneous firms play a crucial role in equilibrium. After a downturn, financially unconstrained firms in financially constrained industries increase capital expenditure to substitute depressed investment by their financially constrained competitors. This increase in investment, primarily driven by small and medium firms, leads to substantial gains in future sales. The study uses a new empirical approach to support its findings.
