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Endogenous Financial Constraints: Persistence and Interest Rate Fluctuations

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Author Info
Juan Pablo Medina

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Abstract

This article analyzes firm dynamics when the entrepreneurs have limited capacity to comply with their financial contracts. We characterize the optimal constrained contract under this imperfection in the presence of productivity and interest rate fluctuations. We show that under the optimal contract, productivity and interest rate fluctuations have amplified effects on the firms’ dynamics, beyond what would be predicted in the case of perfect enforceability. Moreover, the persistence of these fluctuations is higher when the compliance problems are more severe. These findings can be related to the fact that countries with better contract enforceability display deeper financial development and better economic performance.

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Paper provided by Central Bank of Chile in its series Working Papers Central Bank of Chile with number 290.

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Date of creation: Dec 2004
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Handle: RePEc:chb:bcchwp:290

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