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Stability or restructuring? Macroeconomic dynamics under soft budget constraint problems

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  • Toyofuku, Kenta

Abstract

In this paper, we examine how a decrease in firms’ productivity or the degree of financial market imperfection affects macroeconomic dynamics when the bank has an incentive to misallocate its credit. We develop a model that incorporates a soft budget constraint into a simplified version of Kiyotaki and Moore (1997) environment and show that soft budget constraint problems may arise if the economy becomes less productive or the financial market is less developed. Because of this shift in firms’ productivity, not only do more bad projects survive, but profitable new entrants are crowded out, so that, as in transition economies and Japan in the 1990s, the recession is not only prolonged, but also becomes more severe in the long term.

Suggested Citation

  • Toyofuku, Kenta, 2013. "Stability or restructuring? Macroeconomic dynamics under soft budget constraint problems," Economic Systems, Elsevier, vol. 37(4), pages 625-649.
  • Handle: RePEc:eee:ecosys:v:37:y:2013:i:4:p:625-649
    DOI: 10.1016/j.ecosys.2013.07.004
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    References listed on IDEAS

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    Keywords

    Soft budget constraint; Financial imperfection; Dynamic general equilibrium; Collateral constraint;

    JEL classification:

    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages

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