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Firms’ precautionary savings and employment during a credit crisis

Melcangi, Davide (2016) Firms’ precautionary savings and employment during a credit crisis. CFM discussion paper series (CFM-DP2016-10). Centre For Macroeconomics, London, UK.

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Abstract

Can the macroeconomic effects of credit supply shocks be large even in an economy in which the share of credit-constrained firms is small? I address this question using a model with firm heterogeneity, in which the interaction between real and financial frictions gives rise to precautionary cash holdings. Using UK firm-level balance sheet data, I show that firms hoarded cash relative to their assets during the last recession, and cash-intensive firms cut their workforces by less. A quantitative version of the model, disciplined by these data, generates similar dynamics in response to a tightening of firms’ credit conditions. The simulated economy experiences a sizeable fall in aggregate employment and prolonged substitution from capital to cash. Most of the aggregate dynamics are driven by unconstrained firms, pre-emptively responding to changes in credit conditions, in anticipation of future idiosyncratic productivity shocks. The model’s ability to generate predictions in line with the data crucially relies on this precautionary channel.

Item Type: Monograph (Discussion Paper)
Official URL: http://www.centreformacroeconomics.ac.uk/Home.aspx
Additional Information: © 2016 The Authors
Divisions: Centre for Macroeconomics
Subjects: H Social Sciences > HB Economic Theory
JEL classification: E - Macroeconomics and Monetary Economics > E4 - Money and Interest Rates > E44 - Financial Markets and the Macroeconomy
G - Financial Economics > G3 - Corporate Finance and Governance > G32 - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure
L - Industrial Organization > L2 - Firm Objectives, Organization, and Behavior > L25 - Firm Performance: Size, Diversification and Scope, Age, Profit, and Sales
Sets: Research centres and groups > Centre for Macroeconomics
Date Deposited: 13 Dec 2017 10:04
Last Modified: 30 Jan 2019 12:32
URI: http://eprints.lse.ac.uk/id/eprint/86237

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