Working Paper: CEPR ID: DP16975
Authors: Thomas Drechsel
Abstract: Microeconomic evidence reveals a direct link between firms' current earnings and their access to debt. This paper studies macroeconomic implications of earnings-based borrowing constraints. In a macro model, firms with earnings-based constraints borrow more in response to positive investment shocks, whereas firms with collateral constraints borrow less. Empirically, aggregate and firm-level credit responds to identified investment shocks according to the predictions with earnings-based constraints. Moreover, with sticky prices earnings-based constraints imply that supply shocks are quantitatively more important. This is validated in an estimated version of the model, highlighting the importance of carefully modeling credit constraints to understand policy tradeoffs.
Keywords: collateral constraints; loan covenants; cash flow-based lending; financial frictions; investment-specific shocks; sticky prices
JEL Codes: E22; E32; E44; G32
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| investment shocks (E22) | earnings-based borrowing response (G51) |
| investment shocks (E22) | collateral borrowing response (G51) |
| earnings-based borrowing response (G51) | credit response to macroeconomic shocks (E39) |
| collateral borrowing response (G51) | credit response to macroeconomic shocks (E39) |
| type of borrowing constraint (G51) | firm's credit response (G21) |