Working Paper: NBER ID: w17775
Authors: Francisco J. Buera; Benjamin Moll
Abstract: We take an off-the-shelf model with financial frictions and heterogeneity, and study the mapping from a credit crunch, modeled as a shock to collateral constraints, to simple aggregate wedges. We study three variants of this model that only differ in the form of underlying heterogeneity. We find that in all three model variants a credit crunch shows up as a different wedge: efficiency, investment, and labor wedges. Furthermore, all three model variants have an undistorted Euler equation for the aggregate of firm owners. These results highlight the limitations of using representative agent models to identify sources of business cycle fluctuations.
Keywords: financial frictions; business cycles; heterogeneity; aggregation
JEL Codes: E32; E44
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Credit Crunch (G01) | Efficiency Wedge (D61) |
| Credit Crunch (G01) | Investment Wedge (G31) |
| Credit Crunch (G01) | Labor Wedge (J39) |
| Efficiency Wedge (D61) | Distortion in Resource Allocation (D39) |
| Investment Wedge (G31) | Less Efficient Allocation of Capital (D29) |
| Labor Wedge (J39) | Reduced Employment (J63) |