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When Liquidity Matters: Firm Balance Sheets during Large Crises

Author

Listed:
  • Mahdi Ebsim
  • Miguel Faria-e-Castro
  • Julian Kozlowski

Abstract

We study how aggregate shocks shape the joint dynamics of credit spreads, debt, and liquid asset holdings for nonfinancial firms, focusing on the Great Financial Crisis (GFC) and COVID-19. Both episodes saw sharp credit spread increases and investment declines, but debt and liquidity fell during the GFC and rose during COVID-19. Cross-sectionally, leverage drove spreads and investment in the GFC, while liquidity dominated during COVID-19. We build a macro-finance model of firm capital structure with a liquidity motive for working capital. Calibrated to data, it attributes the GFC to real and financial shocks, and COVID-19 to an additional liquidity shock.

Suggested Citation

  • Mahdi Ebsim & Miguel Faria-e-Castro & Julian Kozlowski, 2025. "When Liquidity Matters: Firm Balance Sheets during Large Crises," Working Papers 2025-019, Federal Reserve Bank of St. Louis, revised 14 Aug 2025.
    • Handle: RePEc:fip:fedlwp:101435
    DOI: 10.20955/wp.2025.019
    Note: Supersedes working paper 2020-035, "Credit and Liquidity Policies during Large Crises" (https://doi.org/10.20955/wp.2020.035)
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    References listed on IDEAS

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    JEL classification:

    • E6 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook
    • G2 - Financial Economics - - Financial Institutions and Services

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