This paper considers the effect of ambiguity on optimal capital structure with a subsidy to investment in combination with a taxation of future profits.It is shown that it might be optimal for the government to pro-vide an investment subsidy when the current tax rate is lower and to provide a tax cut when current tax rate is higher.In addition,quantitative analysis displays that the presence of model uncertainty reduces firm value,raises credit spread,and leads to de-leveraging.However,agency costs decrease when decision-makers are concerned about ambiguity.From this standpoint,our model provides a behavioral justification for the higher financing cost and zero leverage for small and medium enterprises.
model uncertaintytax cutinvestment subsidyinvestment timing
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