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Liquidity, assets and business cycles

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  • Shi, Shouyong

Abstract

The objective here is to evaluate the quantitative importance of financial frictions in business cycles. The analysis shows that a negative financial shock can cause aggregate investment, employment and consumption to fall with output. Despite this realistic comovement among macro quantities, a negative financial shock generates an equity price boom as the shock tightens firms׳ financing constraint. This counterfactual response of the equity price is robust to a wide range of variations in how financial frictions are modeled and whether financial shocks affect asset liquidity or firms׳ collateral constraints. Some possible resolutions to this puzzle are discussed.

Suggested Citation

  • Shi, Shouyong, 2015. "Liquidity, assets and business cycles," Journal of Monetary Economics, Elsevier, vol. 70(C), pages 116-132.
    • Handle: RePEc:eee:moneco:v:70:y:2015:i:c:p:116-132
    DOI: 10.1016/j.jmoneco.2014.10.002
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    References listed on IDEAS

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    Keywords

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    JEL classification:

    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit
    • G1 - Financial Economics - - General Financial Markets

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