Macroeconomic Effects of Delayed Capital Liquidation

Wei Cui

Journal of the European Economic Association, 2022, vol. 20, issue 4, 1683-1742

Abstract: This paper studies the macroeconomic effects of capital reallocation with financial shocks. I develop a model in which firms face borrowing constraints, idiosyncratic productivity shocks, and idiosyncratic liquidation costs. The idiosyncratic risks of productivity and liquidation costs generate an option value of staying in business and a liquidation delay for unproductive firms. A new feature arises from the delay. Unproductive firms that are not liquidated increase their leverage over time, pushing them to hit the borrowing limit. I show that adverse financial shocks that tighten borrowing constraints can raise the option value, and equilibrium effects can further delay capital liquidation and reallocation. Capital is thus persistently misallocated, leading to long-lasting economic contractions.

Date: 2022
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Citations: View citations in EconPapers (4)

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Related works:
Working Paper: Macroeconomic Effects of Delayed Capital Liquidation (2017)
Working Paper: Macroeconomic effects of delayed capital liquidation (2017)
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Persistent link: https://EconPapers.repec.org/RePEc:oup:jeurec:v:20:y:2022:i:4:p:1683-1742.

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