To understand how financial constraints affect export status, the first step is to ask what are the financing needs of an exporting firm. Take for example, a firm owner who has to decide between selling to domestic or foreign markets. She/he would face export specific costs such as the costs of licensing or getting entry to markets.<sup>3</sup> However, beyond these additional costs, the owner also faces a significant difference in timing between domestic sales and foreign sales. In the case of Bangladesh, exporting to Hamburg can take up to 39 days. With domestic sales, goods would be delivered faster and the payment for the goods received within a shorter time. With foreign sales, although the goods will fetch a higher price, the goods will take longer to deliver and the payment will be received with a longer delay. The data show that most firms receive payment only after their goods have been delivered. Thus, the decision to export involves the owner asking themselves whether they would be able to remain liquid during the period before payment is received. Operating liquidity in financial metric terms is working capital. As such, to address how financial constraints affect the export decision of the firm, it is necessary to understand how working capital affects the export decision of the firm.

This paper makes two contributions to this question. First, a dynamic working capital model of the firm’s export decision is presented. Second, the empirical predictions of the model are tested using a unique panel data set of Bangladeshi firms and robust evidence is found that financial constraints provide a significant barrier to exports.

The theoretical model builds upon the dynamic working capital model of the firm **?** and extends it to the export decision of the firm. At the time of writing, there has not been any existing trade models that have formalized the role of working capital in exporting decisions.

Working capital underlies two fundamental concepts in trade: costs to entry and the role of distance in determining trade volumes. The extra working capital demands from exporting over domestic sales due to shipping time, formalizes the concept of sunk cost or the cost of entry which many trade models are premised upon (see **?????** ). Furthermore, as the amount of working capital directly reflects transportation time, the greater the distance, the greater the working capital demands in exporting. Therefore, the model also speaks to the area of trade research on how distance determines trade volumes as well as on how time can act as a trade barrier (see **???** for research in this area. ).

The main theoretical result is that the export decision of the firm is determined by both productivity and working capital and their relative importance depends on whether the firm is financially constrained or not. The model shows that exporting depends primarily on productivity _if the firm is not financially constrained._ When firms are financially constrained, however, a lack of working capital can severely restrict a firm’s willingness and ability to engage in exports. The implication is that among the population of firms, there will exist low productivity firms that never export regardless of their cash positions, and cash-poor firms that do not export regardless of their productivity levels.

To assess the importance of this mechanism, I use a unique firm-level data set which allows two key aspects of the model to be examined: a) a direct test of the interaction between financial constraints, working capital and productivity in determining the export status of the firm, and b) the relationship between working capital and the export distance that underlies the rationale behind the theoretical model. The 2002 Bangladesh Investment Climate Survey is one of the few panel data sets available that contain firm level financial information, their access to credit and detailed information on exports. The empirical results provide support for the model’s predictions that the effects of working capital and productivity will differ between financially constrained and unconstrained firms. Specifically, for financially constrained firms, productivity matters less than for unconstrained firms while working capital matters much more. The correlation between

> 3Costs to exporting also include shipping and transportation, custom duties and many more. These are discussed in **?** .

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