Working Paper: CEPR ID: DP7451
Authors: Urban Jermann; Vincenzo Quadrini
Abstract: In this paper we document the cyclical properties of U.S. firms' financial flows. Equity payouts are procyclical and debt payouts are countercyclical. We develop a model with explicit roles for debt and equity financing and explore how the observed dynamics of real and financial variables are affected by `financial shocks', that is, shocks that affect the firms' capacity to borrow. Standard productivity shocks can only partially explain the movements in real and financial variables. The addition of financial shocks brings the model much closer to the data. The recent events in the financial sector show up clearly in our model as a tightening of firms' financing conditions causing the GDP decline in 2008-09. Our analysis also suggests that the downturns in 1990-91 and 2001 were strongly influenced by changes in credit conditions.
Keywords: business cycle; debt and equity; financial frictions
JEL Codes: E32; G10
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| financial shocks (F65) | firms' capacity to borrow (G32) |
| firms' capacity to borrow (G32) | labor demand (J23) |
| labor demand (J23) | economic output (E23) |
| financial shocks (F65) | economic output (E23) |
| tighter credit conditions (E51) | labor demand (J23) |
| tighter credit conditions (E51) | economic output (E23) |