Unemployment and credit risk

Hang Bai

Journal of Financial Economics, 2021, vol. 142, issue 1, 127-145

Abstract: Labor market frictions help explain the credit spread puzzle. In U.S. aggregate data and newly assembled U.S. industry-level and cross-country panel datasets, the relation between unemployment and credit risk is strong and positive. In a search model of equilibrium unemployment embedded with defaultable debt and capital accumulation, search frictions create downward rigidity in expected search costs, hindering firms from repaying creditors particularly in bad times and rendering corporate debt riskier. Quantitatively, the model replicates the strongly positive relation between unemployment and credit risk as well as salient features of the credit spread, including its level, volatility, cyclicality, and skewness.

Keywords: Default; Credit spread; Search and matching; Unemployment (search for similar items in EconPapers)
JEL-codes: E24 E44 G12 G14 J64 (search for similar items in EconPapers)
Date: 2021
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Citations: View citations in EconPapers (2)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:jfinec:v:142:y:2021:i:1:p:127-145

DOI: 10.1016/j.jfineco.2021.05.046

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