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Illiquid investments and the non-monotone relationship between credit and growth

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  • Salas, Sergio
  • Odell, Kathleen

Abstract

Mounting evidence suggests a non-monotonic relationship between finance and growth: increases in credit over GDP lead to increases in growth at diminishing rates, and after a point growth decreases. We propose a theory based on liquidity risks that delivers this result. Our theory features a tension between the high return to capital and its illiquid nature. This tension is alleviated by the availability of credit. Initially, further access to credit offsets the detrimental effects of illiquid capital, facilitating investment and growth. Beyond some threshold however, expanded access to credit induces private bonds to compete with capital as a means of savings, which becomes detrimental to growth.

Suggested Citation

  • Salas, Sergio & Odell, Kathleen, 2022. "Illiquid investments and the non-monotone relationship between credit and growth," Journal of Macroeconomics, Elsevier, vol. 74(C).
    • Handle: RePEc:eee:jmacro:v:74:y:2022:i:c:s0164070422000532
    DOI: 10.1016/j.jmacro.2022.103459
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    More about this item

    Keywords

    Endogenous growth; Finance; Heterogeneous agents;
    All these keywords.

    JEL classification:

    • O4 - Economic Development, Innovation, Technological Change, and Growth - - Economic Growth and Aggregate Productivity
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy

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