Financial Distress, Fiscal Policies, Liquidity and Firm Performance: A Critical Review of Literature

Abstract

Financial distress remains a critical challenge for businesses, often impairing their ability to meet financial obligations and determining whether they recover or collapse. Recent corporate failures have heightened stakeholder interest in understanding the dynamics of financial distress and their implications for organizational sustainability. This study undertakes a critical review of theoretical and empirical literature to examine the relationship between financial distress and firm performance. Specifically, it investigates the mediating role of fiscal policies, the moderating influence of liquidity, and the comparative impact of these factors on firm outcomes. Grounded in financial distress theory and supported by Keynesian, cash flow, and liquidity preference perspectives, the review reveals a consistent inverse relationship between financial distress and firm performance, despite some studies suggesting a positive association. Such contradictions are attributed to differences in constructs, methodologies, and contextual settings. The findings provide actionable insights for managers and executives seeking to anticipate risks and design effective strategies to mitigate financial distress. Additionally, the study contributes to academic discourse by identifying gaps in the literature and offering directions for future research, thereby enriching understanding of corporate finance and organizational performance.

Keywords:       Corporate Finance, Financial Distress, Financial Performance, Liquidity and Fiscal Policies.