Figure 1 develops the difference between the finance effect and the asset substitution effect. Take labor and human capital as fixed. Assume the optimal production point given world factor prices for fixed and intangible assets entails combinations of amounts of fixed and intangible assets that lay along the line from the origin through point A. Assume the firm wants to expand from initial point A as demand increases. If the firm has access to highly developed financial markets and is able to collateralize all types of assets, it would be able to raise enough external financing to invest in an optimal proportion of fixed assets and intangible assets to arrive at say point D. The investment of firms in countries with well-developed financial markets should exhibit such patterns If the supply of external financing is limited, the firm may only be able to reach point C. The difference between point D and point C could then be ascribed to a more limited supply of external financing. The firm, however, could also deviate from the optimal production line, points A, C and D. It may, for example, find it more efficient to hoose point B rather than point C. This would be if the firm finds it more difficult to secure for itself returns from intangible assets compared to returns from fixed assets. This could be the case in developing countries, where due to poor (intellectual) property rights it may hard for a firm to collect revenues from assets such as patents and other intangible assets. More generally, a preference for investments in fixed assets rather than intangible assets may arise in countries with poor protection of property rights when there are fixed costs to producing intangible assets. With poor protection of property rights, it will be less attractive for a firm to incur any fixed costs to produce intangible assets, like investing in research and development, marketing, networks, human resources, etc. This could make it more attractive for a firm to invest largely in fixed assets The law and finance literature focuses on the difference between point D and C, as the supply of external financing is not assumed to be affected by the asset choice. If firms in countries with low financial development and poor property rights systematically were to choose point B rather than point C, then the law and finance approach would ascribe the whole difference between point D and B, and any impact on firm growth, to limited financial development only. In other words, the law and finance literature ignores any differences on the asset side of the firm's balance sheet when studying the effects of legal frameworks on firm financing and growth patterns. But the difference between6 Figure 1 develops the difference between the finance effect and the asset substitution effect. Take labor and human capital as fixed. Assume the optimal production point given world factor prices for fixed and intangible assets entails combinations of amounts of fixed and intangible assets that lay along the line from the origin through point A. Assume the firm wants to expand from initial point A as demand increases. If the firm has access to highly developed financial markets and is able to collateralize all types of assets, it would be able to raise enough external financing to invest in an optimal proportion of fixed assets and intangible assets to arrive at say point D. The investment of firms in countries with well-developed financial markets should exhibit such patterns. If the supply of external financing is limited, the firm may only be able to reach point C. The difference between point D and point C could then be ascribed to a more limited supply of external financing. The firm, however, could also deviate from the optimal production line, points A, C and D. It may, for example, find it more efficient to choose point B rather than point C. This would be if the firm finds it more difficult to secure for itself returns from intangible assets compared to returns from fixed assets. This could be the case in developing countries, where due to poor (intellectual) property rights it may hard for a firm to collect revenues from assets such as patents and other intangible assets. More generally, a preference for investments in fixed assets rather than intangible assets may arise in countries with poor protection of property rights when there are fixed costs to producing intangible assets. With poor protection of property rights, it will be less attractive for a firm to incur any fixed costs to produce intangible assets, like investing in research and development, marketing, networks, human resources, etc. This could make it more attractive for a firm to invest largely in fixed assets. The law and finance literature focuses on the difference between point D and C, as the supply of external financing is not assumed to be affected by the asset choice. If firms in countries with low financial development and poor property rights systematically were to choose point B rather than point C, then the law and finance approach would ascribe the whole difference between point D and B, and any impact on firm growth, to limited financial development only. In other words, the law and finance literature ignores any differences on the asset side of the firm’s balance sheet when studying the effects of legal frameworks on firm financing and growth patterns. But the difference between