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Why Does Credit Growth Crowd Out Real Economic Growth?

Author

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  • Stephen G. Cecchetti
  • Enisse Kharroubi

Abstract

We examine the negative relationship between the rate of growth in credit and the rate of growth in output per worker. Using a panel of 20 countries over 25 years, we establish that there is a robust correlation: the higher the growth rate of credit, the lower the growth rate of output per worker. We then proceed to build a model in which this relationship arises from the fact that investment projects that are more risky have a higher return. As their borrowing grows more quickly over time, entrepreneurs turn to safer; hence, lower return projects, thereby reducing aggregate productivity growth. We take this theoretical prediction to industry‐level data and find that credit growth disproportionately harms output per worker growth in industries that have either less tangible assets or are more R&D intensive.

Suggested Citation

  • Stephen G. Cecchetti & Enisse Kharroubi, 2019. "Why Does Credit Growth Crowd Out Real Economic Growth?," Manchester School, University of Manchester, vol. 87(S1), pages 1-28, September.
    • Handle: RePEc:bla:manchs:v:87:y:2019:i:s1:p:1-28
    DOI: 10.1111/manc.12295
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    JEL classification:

    • D92 - Microeconomics - - Micro-Based Behavioral Economics - - - Intertemporal Firm Choice, Investment, Capacity, and Financing
    • E22 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Investment; Capital; Intangible Capital; Capacity
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • O4 - Economic Development, Innovation, Technological Change, and Growth - - Economic Growth and Aggregate Productivity

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