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Equilibrium Default and the Unemployment Accelerator

Author

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  • Gaston Navarro

    (Federal Reserve Board)

  • Julio Blanco

    (University of Michigan)

Abstract

We provide evidence of a significant and persistent negative relation between a firm's workers and her probability to default. In contrast with most "macro-finance" models, this relation is robust to controlling for the several firm's variables, such as the firm's leverage and profitability. In particular, for a panel of most US publicly traded firms, we find that a 10% increase in a firm's workers is associated with a 3% decline in her probability to default. To account for this fact, we extend a standard search-friction labor-market model to incorporate firms default risk. This environment provides a micro-foundation where workers determine the firm's value, and consequently affecting her incentives to default. We argue that fluctuations in the value of a worker generate and significantly amplify business cycle fluctuations. In the context of our model, we find that fluctuations in the value of a worker explain more than 68% of credit spreads volatility, and almost 80% of default rate volatility.

Suggested Citation

  • Gaston Navarro & Julio Blanco, 2016. "Equilibrium Default and the Unemployment Accelerator," 2016 Meeting Papers 1502, Society for Economic Dynamics.
    • Handle: RePEc:red:sed016:1502
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    References listed on IDEAS

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    2. Deng, Minjie & Fang, Min, 2022. "Debt maturity heterogeneity and investment responses to monetary policy," European Economic Review, Elsevier, vol. 144(C).

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