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Finance-thy-Neighbor. Trade Credit Origins of Aggregate Fluctuations

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  • Margit Reischer

    (Cambridge University)

Abstract

Trade credit in the form of a delay of inputs payments is an important source of financing for all types of firms. In this paper, I study the role of credit linkages for the propagation of financial shocks in a production network where firms finance their working capital requirements using bank and trade credit. To this end, I build a quantitative multisector model with endogenous credit linkages between representative firms in each sector. The endogenous adjustment in the volume and cost of trade credit captures two counteracting mechanisms: (1) Firms smooth interest rate shocks by substituting bank and supplier finance. (2) An increase in the interest rate that a firm charges on trade credit tightens the financing terms of its customers thereby amplifying financial shocks. Quantitatively, the model accounts for 30% of the variation in aggregate output in the US-economy. Model simulations show that the existence of the trade credit network doubled the drop in aggregate output during the 2008-2009 crisis relative to an equivalent economy with bank-finance only. Furthermore, the ratio of total outstanding payments owed by customers for already delivered goods and services to bank credit is a good proxy for the systemic importance of a sector in propagating liquidity shocks.

Suggested Citation

  • Margit Reischer, 2019. "Finance-thy-Neighbor. Trade Credit Origins of Aggregate Fluctuations," 2019 Meeting Papers 1129, Society for Economic Dynamics.
    • Handle: RePEc:red:sed019:1129
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    Cited by:

    1. Altinoglu, Levent, 2021. "The origins of aggregate fluctuations in a credit network economy," Journal of Monetary Economics, Elsevier, vol. 117(C), pages 316-334.
    2. Xavier Mateos-Planas & Giulio Seccia, 2021. "Trade Credit Default," Discussion Papers 2125, Centre for Macroeconomics (CFM).
    3. Basile Grassi & Julien Sauvagnat, 2019. "Production networks and economic policy," Oxford Review of Economic Policy, Oxford University Press and Oxford Review of Economic Policy Limited, vol. 35(4), pages 638-677.
    4. Esposito, Federico & Hassan, Fadi, 2023. "Import competition, trade credit and financial frictions in general equilibrium," LSE Research Online Documents on Economics 121378, London School of Economics and Political Science, LSE Library.
    5. Banu Demir & Beata Javorcik & Tomasz K. Michalski & Evren Ors, 2020. "Financial Constraints and propagation of shocks in production network," Discussion Papers 2020-23, University of Nottingham, GEP.
    6. Yoshiyuki ARATA, 2020. "The Role of Granularity in the Variance and Tail Probability of Aggregate Output," Discussion papers 20027, Research Institute of Economy, Trade and Industry (RIETI).
    7. Hassan, Fadi & Esposito, Federico, 2023. "Import Competition, Trade Credit, and Financial Frictions in General Equilibrium," CEPR Discussion Papers 17926, C.E.P.R. Discussion Papers.
    8. Adilkhanova, Zarina & Nurlankul, Aruzhan & Token, Aizat & Yavuzoglu, Berk, 2022. "Trade credit and financial crises in Kazakhstan," Journal of Asian Economics, Elsevier, vol. 80(C).

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