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Leverage and Deepening Business-Cycle Skewness†

Leverage and Deepening Business-Cycle Skewness† AbstractWe document that the United States and other G7 economies have been characterized by an increasingly negative business-cycle asymmetry over the last three decades. This finding can be explained by the concurrent increase in the financial leverage of households and firms. To support this view, we devise and estimate a dynamic general equilibrium model with collateralized borrowing and occasionally binding credit constraints. Improved access to credit increases the likelihood that financial constraints become nonbinding in the face of expansionary shocks, allowing agents to freely substitute inter-temporally. Contractionary shocks, however, are further amplified by drops in collateral values, since constraints remain binding. As a result, booms become progressively smoother and more prolonged than busts. Finally, in line with recent empirical evidence, financially driven expansions lead to deeper contractions, as compared with equally sized nonfinancial expansions. (JEL D14, E23, E32, E44) http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png American Economic Journal: Macroeconomics American Economic Association

Leverage and Deepening Business-Cycle Skewness†

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Publisher
American Economic Association
Copyright
Copyright © 2020 © American Economic Association
ISSN
1945-7715
DOI
10.1257/mac.20170319
Publisher site
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Abstract

AbstractWe document that the United States and other G7 economies have been characterized by an increasingly negative business-cycle asymmetry over the last three decades. This finding can be explained by the concurrent increase in the financial leverage of households and firms. To support this view, we devise and estimate a dynamic general equilibrium model with collateralized borrowing and occasionally binding credit constraints. Improved access to credit increases the likelihood that financial constraints become nonbinding in the face of expansionary shocks, allowing agents to freely substitute inter-temporally. Contractionary shocks, however, are further amplified by drops in collateral values, since constraints remain binding. As a result, booms become progressively smoother and more prolonged than busts. Finally, in line with recent empirical evidence, financially driven expansions lead to deeper contractions, as compared with equally sized nonfinancial expansions. (JEL D14, E23, E32, E44)

Journal

American Economic Journal: Macroeconomics – American Economic Association

Published: Jan 1, 2020

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