Investment, Inflation, and the Role of Internal Information Systems as a Transmission

The authors examine whether the quality of firms’ internal information systems influences the relation between inflation shocks and corporate investment, as posited by imperfect information models. Inconsistent with RBC models’ prediction that nominal variables (e.g., inflation) do not affect real variables (e.g., corporate investment) but consistent with the presence of information frictions, the authors first document a positive relation between inflation shocks and firm-level investment. Next, the authors show that higher internal information system quality, measured through responses to the World Management Survey, mitigates the positive relation between inflation shocks and firm-level investment. This result suggests that internal information quality serves as a channel through which aggregate-level nominal variables affect firm-level real variables. The authors then document that firms with higher internal information system quality make relatively more efficient investment decisions following inflation shocks. The authors' inferences are robust to using the 8th EU Company Law Directive as a shock to internal information system quality and to several additional tests.