I study how firms’ endogenous responses to demand shocks affect the measurement of investor demand elasticity and capital misallocation. When a demand shock raises a firm’s stock price, the firm responds by issuing equity and using the proceeds to invest and pay down debt. These responses raise fundamental value, creating a feedback from investor demand to fundamentals, while the new shares absorb part of the price pressure. The observed price response therefore blends price pressure with fundamental improvement, which the data alone cannot separate. Empirically, a one-standard-deviation mutual fund flow shock raises stock prices by 1.9% and leads firms to issue equity, invest, and pay down debt. A dynamic equilibrium model matched to these responses attributes 17% of the initial price increase to fundamental improvement and the rest to price pressure. Standard estimates treat this improvement as price pressure; correcting for it raises the elasticity from 1.3 to 1.6. Even corrected, demand is far from perfectly elastic, so price pressure should give firms ample incentive to over- or under-invest. Yet eliminating price pressure entirely raises aggregate TFP by only 0.12%, less than the 0.14% from a modest reduction in real capital adjustment costs. Misallocation stays small because the elasticity is source-, size-, and state-dependent. Source- and size-dependence cap how much price pressure a demand shock creates. State-dependence lets firms short of capital use the remaining pressure as cheap financing, offsetting part of the misallocation it causes.
