Contagion and Volatility with Imperfect Credit Markets

Joshua Aizenman and Pierre-Richard Agénor

No 1997/127, IMF Working Papers from International Monetary Fund

Abstract: This paper interprets contagion effects as an increase in the volatility of aggregate shocks impinging on the domestic economy. The implications of this approach are analyzed in a model with two types of credit market imperfections: domestic banks borrow at a premium on world capital markets, and domestic producers (whose demand for credit results from working capital needs) borrow at a premium from domestic banks. Higher volatility of producers’ productivity shocks increases both domestic and foreign financial spreads and the producers’ cost of capital, resulting in lower employment and higher incidence of default. Welfare effects are nonlinearly related to the degree of international financial integration.

Keywords: WP; Credit market imperfections; volatility; interest rate spreads; interest rate spread; bank closure; representative bank; probability of default; credit market; enforcement cost; cost of capital; lending rate; domestic bank; Capital markets; Employment; Bank credit; Loans; Productivity; Global (search for similar items in EconPapers)
Pages: 33
Date: 1997-10-01
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Citations: View citations in EconPapers (23)

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Related works:
Journal Article: Contagion and Volatility with Imperfect Credit Markets (1998)
Working Paper: Contagion and Volatility with Imperfect Credit Markets (1997)
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