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Stability or restructuring? Macroeconomic dynamics under soft budget constraint problems

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  • Toyofuku, Kenta
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    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.

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    File URL: http://www.sciencedirect.com/science/article/pii/S0939362513000836
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    Article provided by Elsevier in its journal Economic Systems.

    Volume (Year): 37 (2013)
    Issue (Month): 4 ()
    Pages: 625-649

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    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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    7. M. Dewatripont & E. Maskin, 1995. "Credit and Efficiency in Centralized and Decentralized Economies," Review of Economic Studies, Oxford University Press, vol. 62(4), pages 541-555.
    8. Kiyotaki, Nobuhiro & Moore, John, 1997. "Credit Cycles," Journal of Political Economy, University of Chicago Press, vol. 105(2), pages 211-248, April.
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