On the importance of household versus firm credit frictions in the Great Recession

Patrick J. Kehoe, Pierlauro Lopez, Virgiliu Midrigan, Elena Pastorino

    Research output: Contribution to journalArticlepeer-review

    Abstract

    Although a credit tightening is commonly recognized as a key determinant of the Great Recession, to date, it is unclear whether a worsening of credit conditions faced by households or by firms was most responsible for the downturn. Some studies have suggested that the household-side credit channel is quantitatively the most important one. Many others contend that the firm-side credit channel played a crucial role. We propose a model in which both channels are present and explicitly formalized. Our analysis indicates that the household-side credit channel is quantitatively more relevant than the firm-side credit channel. We then evaluate the relative benefits of a fixed-sized transfer to households and to firms that improves each group's access to credit. We find that the effects of such a transfer on employment are substantially larger when the transfer targets households rather than firms. Hence, we provide theoretical and quantitative support to the view that the employment decline during the Great Recession would have been less severe if instead of focusing on easing firms' access to credit, the government had expended an equal amount of resources to alleviate households' credit constraints.

    Original languageEnglish (US)
    Pages (from-to)S34-S67
    JournalReview of Economic Dynamics
    Volume37
    DOIs
    StatePublished - Aug 2020

    Keywords

    • Collateral constraints
    • Credit constraints
    • Financial recession
    • Government transfers
    • Great Recession

    ASJC Scopus subject areas

    • Economics and Econometrics

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