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Self-fulfilling credit cycles

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  • Costas Azariadis
  • Leo Kaas

Abstract

This paper argues that self-fulfilling beliefs in credit conditions can generate endoge- nously persistent business cycle dynamics. We develop a tractable dynamic general equi- librium model in which heterogeneous firms face idiosyncratic productivity shocks. Capital from less productive firms is lent to more productive ones in the form of credit secured by collateral and also as unsecured credit based on reputation. A dynamic complemen- tarity between current and future credit constraints permits uncorrelated sunspot shocks to trigger persistent aggregate fluctuations in debt, factor productivity and output. In a calibrated version we compare the features of sunspot cycles with those generated by shocks to economic fundamentals.

Suggested Citation

  • Costas Azariadis & Leo Kaas, 2012. "Self-fulfilling credit cycles," Working Papers 2012-047, Federal Reserve Bank of St. Louis.
    • Handle: RePEc:fip:fedlwp:2012-047
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    More about this item

    Keywords

    Credit; Business cycles;

    JEL classification:

    • D92 - Microeconomics - - Micro-Based Behavioral Economics - - - Intertemporal Firm Choice, Investment, Capacity, and Financing
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles

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