Working Paper: NBER ID: w29606
Authors: Viral V. Acharya; Simone Lenzu; Olivier Wang
Abstract: We build a model with heterogeneous firms and banks to analyze how policy affects credit allocation and long-term economic outcomes. When firms are hit by small negative shocks, conventional monetary policy can restore efficient bank lending and production by lowering interest rates. Large shocks, however, necessitate unconventional policy such as regulatory forbearance towards banks to stabilize the economy. Aggressive accommodation runs the risk of introducing zombie lending and a “diabolical sorting”, whereby low-capitalization banks extend new credit or evergreen existing loans to low-productivity firms. If shocks reduce the profitability gap between healthy and zombie firms, the optimal forbearance policy is non-monotone in the size of the shock. In a dynamic setting, policy aimed at avoiding short-term recessions can be trapped into protracted low rates and excessive forbearance, due to congestion externalities imposed by zombie lending on healthier firms. The resulting economic sclerosis delays the recovery from transitory shocks, and can even lead to permanent output losses.
Keywords: zombie lending; regulatory forbearance; monetary policy; credit allocation; economic outcomes
JEL Codes: E44; E52; G01; G21; G28; G33
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Conventional monetary policy (E52) | Efficient bank lending (G21) |
| Lowering interest rates (E43) | Efficient bank lending (G21) |
| Large shocks (E32) | Unconventional policies (E19) |
| Unconventional policies (E19) | Zombie lending (G21) |
| Regulatory forbearance (G28) | Misallocation of resources (D61) |
| Low-capitalization banks (G21) | Credit to low-productivity firms (D25) |
| Zombie lending (G21) | Misallocation of resources (D61) |
| Moderate shocks (E65) | Increase in forbearance (G51) |
| Large shocks (E32) | Decrease in forbearance (G33) |