Credit constraints, firms' precautionary investment and the business cycle

Ander Pérez Orive ()
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Ander Pérez Orive: https://www.upf.edu/web/econ/faculty/-/asset_publisher/6aWmmXf28uXT/persona/id/3419769

Economics Working Papers from Department of Economics and Business, Universitat Pompeu Fabra

Abstract: This paper studies the macroeconomic implications of firms' investment composition choices in the presence of credit constraints. Following a negative and persistent aggregate productivity shock, firms shift into short-term investments because they produce more pledgeable output and because they help alleviate future borrowing constraints. This produces a short-run dampening of the effects of the shock, at the expense of lower long-term investment and future output, relative to an economy with no credit market imperfections. The effects are exacerbated by a steepening of the term structure of interest rates that further encourages a shift towards short-term investments in the short-run. Small temporary shocks to the severity of financing frictions generate large and long-lasting effects on output through their impact on the composition of investment. A positive financial shock produces much stronger effects than an identical negative shock, while the responses to positive and negative shocks to aggregate productivity are roughly symmetric. Finally, the paper introduces a novel explanation for the countercyclicality of financing constraints of firms.

Keywords: Investment composition; Financial frictions; Business cycles; Idiosyncratic production risk; Firm heterogeneity (search for similar items in EconPapers)
JEL-codes: D92 E22 E32 E44 G31 G32 (search for similar items in EconPapers)
Date: 2010-09, Revised 2012-11
New Economics Papers: this item is included in nep-bec, nep-dge and nep-mac
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