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Firm-level credit ratings and default in the Great Recession: Theory and evidence

Fernando Leibovici () and David Wiczer ()

No 1389, 2019 Meeting Papers from Society for Economic Dynamics

Abstract: This paper studies the role of credit constraints in accounting for the dynamics of firm-level default during the Great Recession. We present novel firm-level evidence on the role of credit ratings in exit behavior during the Great Recession. Firms with low credit rating are more likely to default than firms with high credit ratings and the difference widened substantially in the Great Recession while, in contrast, default rates did not vary much by size, age, or productivity. Because credit ratings may capture the long-term solvency of firms and their access to short-term liquidity, we interpret this evidence using a model of heterogeneous firms with endogenous default and delinquency choices, where intertemporal loans are taken to pay for working capital expenditures and loan prices depend on the firms' payment history. Our findings suggest that credit constraints played an important role in accounting for the dynamics of firm-level default during the Great Recession. We investigate the extent to which credit ratings reflect imperfect information about firms, and examine their implications for the dynamics of default as well as for the design of policies during episodes of financial distress.

Date: 2019
New Economics Papers: this item is included in nep-dge, nep-ent and nep-sbm
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Persistent link: https://EconPapers.repec.org/RePEc:red:sed019:1389

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