Uncertainty in a model with credit frictions

Ambrogio Cesa-Bianchi and Emilio Fernandez-Corugedo
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Emilio Fernandez-Corugedo: Bank of England, Postal: Publications Group Bank of England Threadneedle Street London EC2R 8AH

No 496, Bank of England working papers from Bank of England

Abstract: This paper investigates the relationship between uncertainty and economic activity in a DSGE model with sticky prices and credit frictions. We analyse the effect of a mean preserving shock to the variance of aggregate total factor productivity (macro uncertainty) and we compare it to the effect of a mean preserving shock to the dispersion of entrepreneurs' idiosyncratic productivity (micro uncertainty). We find that micro uncertainty has a larger impact on economic activity. While macro uncertainty is transmitted through precautionary savings, micro uncertainty primarily acts through the cost of external debt and capital demand and, therefore, it is greatly magnified by the credit friction. Our findings suggest that uncertainty shocks can generate sizable impact on economic activity only when transmitted through a credit channel.

Keywords: Uncertainty shocks; credit frictions; business cycles; micro uncertainty; macro uncertainty; financial accelerator (search for similar items in EconPapers)
JEL-codes: E32 E44 (search for similar items in EconPapers)
Pages: 49 pages
Date: 2014-04-17
New Economics Papers: this item is included in nep-dge and nep-mac
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (21)

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Persistent link: https://EconPapers.repec.org/RePEc:boe:boeewp:0496

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