Do public subsidies trigger firms' overinvestment? Evidence from the Korean renewable energy technology industry.

We empirically investigate whether government subsidies result in firms' overinvestment using unbalanced panel data from 61 renewable energy technology firms in Korea between 1991 and 2018. Considering the diagnostic test results, we build a panel vector autoregression model and test how overinvestment is influenced by research and development and non-research and development government subsidies and the interactions between subsidies, leverage, and free cash flow. We find that these subsidies do not significantly induce overinvestment by firms. In addition, non-research and development subsidies affect overinvestment positively through leverage and affect it negatively through free cash flow interactions. We also find that leverage and free cash flow do not affect overinvestment in Korea's renewable energy technology sector directly; however, firms with positive free cash flow tend to overinvest. One factor that drives renewable energy technology firms in Korea to overinvest is external growth opportunities. We suggest various policy implications based on this study's results.