The Interaction between Credit Constraints and Uncertainty Shocks
Publication Name
Journal of Money, Credit and Banking
Abstract
This paper proposes a novel link between credit markets and uncertainty shocks. We introduce a role for credit uncertainty via collateral constraints in an otherwise standard real business cycle (RBC) model and show that an increase in credit uncertainty triggers a precautionary response that interacts with the collateral constraint to generate a simultaneous decline in output, consumption, investment, real wages, and hours; a feature that previous work on uncertainty shocks without credit constraints is unable to produce in a flexible-price environment. We also empirically test the theoretical predictions and show that an unforeseen increase in credit uncertainty generates a simultaneous decline in a broad measure of real activity in recessions.
Open Access Status
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