Working Paper: CEPR ID: DP9678
Authors: Scar Jord; Moritz Schularick; Alan M. Taylor
Abstract: Two separate narratives have emerged in the wake of the Global Financial Crisis. One speaks of private financial excess and the key role of the banking system in leveraging and deleveraging the economy. The other emphasizes the public sector balance sheet over the private and worries about the risks of lax fiscal policies. However, the two may interact in important and understudied ways. This paper studies the co-evolution of public and private sector debt in advanced countries since 1870. We find that in advanced economies financial stability risks have come from private sector credit booms and not from the expansion of public debt. However, we find evidence that high levels of public debt have tended to exacerbate the effects of private sec- tor deleveraging after crises, leading to more prolonged periods of economic depression. Fiscal space appears to be a constraint in the aftermath of a crisis, then and now.
Keywords: booms; business cycles; financial crises; leverage; local projections; recessions
JEL Codes: C14; C52; E51; F32; F42; N10; N20
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| private sector credit booms (F65) | financial stability risks (F65) |
| public debt expansion (H63) | financial stability risks (F65) |
| high levels of public debt (H69) | adverse effects of private sector deleveraging (F65) |
| private sector deleveraging following financial crises (F65) | prolonged economic downturns (F44) |
| credit boom preceding a crisis (F65) | severity of recession (F44) |
| credit boom preceding a crisis (F65) | speed of recovery (C41) |
| high public debt levels + credit boom preceding a crisis (F65) | severity of recession (F44) |
| high public debt levels + credit boom preceding a crisis (F65) | speed of recovery (C41) |
| normal recessions (E32) | decline in real GDP per capita (O49) |
| financial crises (G01) | decline in real GDP per capita (O49) |
| financial crises (G01) | recovery time (C41) |
| normal recessions (E32) | recovery time (C41) |