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Endogenous Uncertainty and Credit Crunches

Author

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  • Robert Ulbricht

    (Toulouse School of Economics)

  • Ludwig Straub

    (MIT)

Abstract

This paper examines the relationship between uncertainty and financial crises. In particular, we present a model where the amount of funding a firm receives depends on how financial markets assess the firm's business conditions. Financial agents endogenously learn about a firm's business conditions from local business indicators, but financial constraints impair the usefulness of this information when a firm is short of funds. This is because financially constrained firms respond less to their private information, reducing the informativeness of business indicators. As a result, a temporary aggregate shock to the economy's financial capacity causes a persistent cycle of uncertainty and financial constraints, where financial markets grow increasingly uncertain about firms without funding. While this feedback loop bears little effect on firms with access to funds, the severe effects it has on constrained firms generate a deep and long-lasting aggregate recession, characterized by an increased misallocation of credit, an increased cross-sectional dispersion of output across firms, and highly volatile and pessimistic financial markets.

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  • Robert Ulbricht & Ludwig Straub, 2015. "Endogenous Uncertainty and Credit Crunches," 2015 Meeting Papers 199, Society for Economic Dynamics.
  • Handle: RePEc:red:sed015:199
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    References listed on IDEAS

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    Cited by:

    1. Tyler Atkinson & Michael Plante & Alexander Richter & Nathaniel Throckmorton, . "Complementarity and Macroeconomic Uncertainty," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics.
    2. Ambrocio, Gene, 2017. "The real effects of overconfidence and fundamental uncertainty shocks," Research Discussion Papers 37/2017, Bank of Finland.
    3. Isaac Baley & Ana Figueiredo & Robert Ulbricht, 2018. "Mismatch Cycles," 2018 Meeting Papers 1098, Society for Economic Dynamics.
    4. Pablo D. Fajgelbaum & Edouard Schaal & Mathieu Taschereau-Dumouchel, 2017. "Uncertainty Traps," The Quarterly Journal of Economics, Oxford University Press, vol. 132(4), pages 1641-1692.
    5. Gete, Pedro & Melkadze, Givi, 2018. "Aggregate volatility and international dynamics. The role of credit supply," Journal of International Economics, Elsevier, vol. 111(C), pages 143-158.
    6. Benhabib, Jess & Liu, Xuewen & Wang, Pengfei, 2016. "Endogenous information acquisition and countercyclical uncertainty," Journal of Economic Theory, Elsevier, vol. 165(C), pages 601-642.
    7. Straub, Ludwig & Ulbricht, Robert, 2019. "Endogenous second moments: A unified approach to fluctuations in risk, dispersion, and uncertainty," Journal of Economic Theory, Elsevier, vol. 183(C), pages 625-660.
    8. Hikaru Saijo & Cosmin Ilut, 2015. "Learning, Confidence, and Business Cycles," 2015 Meeting Papers 917, Society for Economic Dynamics.
    9. Elias Albagli & Christian Hellwig & Aleh Tsyvinski, 2021. "Dispersed Information and Asset Prices," Working Papers hal-03118639, HAL.
    10. Gaetano Gaballo, 2016. "Rational Inattention to News: The Perils of Forward Guidance," American Economic Journal: Macroeconomics, American Economic Association, vol. 8(1), pages 42-97, January.
    11. Alexander W. Richter & Nathaniel A. Throckmorton, 2017. "A New Way to Quantify the Effect of Uncertainty," Working Papers 1705, Federal Reserve Bank of Dallas.
    12. Vladimir Asriyan & Luc Laeven & Alberto Martín, 2018. "Collateral Booms and Information Depletion," Working Papers 1064, Barcelona Graduate School of Economics.
    13. Kyriakos T. Chousakos & Gary B. Gorton & Guillermo Ordoñez, 2020. "The Macroprudential Role of Stock Markets," NBER Working Papers 27113, National Bureau of Economic Research, Inc.
    14. Claudio Michelacci & Luigi Paciello, 2020. "Aggregate Risk or Aggregate Uncertainty? Evidence from UK Households," EIEF Working Papers Series 2006, Einaudi Institute for Economics and Finance (EIEF), revised Apr 2020.
    15. Gene Ambrocio, 2020. "Rational exuberance booms," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 35, pages 263-282, January.
    16. Brendon, Charles & Corsetti, Giancarlo, 2016. "COEURE Survey: Fiscal and Monetary Policies after the Crises," CEPR Discussion Papers 11088, C.E.P.R. Discussion Papers.
    17. Joshua Bernstein & Alexander W. Richter & Nathaniel A. Throckmorton, 2021. "Nonlinear Search and Matching Explained," Working Papers 2106, Federal Reserve Bank of Dallas.

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    More about this item

    JEL classification:

    • D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search; Learning; Information and Knowledge; Communication; Belief; Unawareness
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • G01 - Financial Economics - - General - - - Financial Crises

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