Volatility and Growth: Credit Constraints and Productivity-Enhancing Investment

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Volatility and Growth: Credit Constraints and Productivity-Enhancing Investment

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Title: Volatility and Growth: Credit Constraints and Productivity-Enhancing Investment
Author: Aghion, Philippe; Angeletos, George-Marios; Banerjee, Abhijit; Manova, Kalina

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Citation: Aghion, Philippe, George-Marios Angeletos, Abhijit Banerjee, and Kalina Manova. 2005. Volatility and growth: Credit constraints and productivity-enhancing investment. Working paper, Department of Economics, Harvard University.
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Abstract: We examine how credit constraints affect the cyclical behavior of productivity-enhancing investment and thereby volatility and growth. We first develop a simple growth model where firms engage in two types of investment: a short-term one and a long-term productivity-enhancing one. Because it takes longer to complete, long-term investment has a relatively less procyclical return but also a higher liquidity risk. Under complete financial markets, long-term investment is countercyclical, thus mitigating volatility. But when firms face tight credit constraints, long-term investment turns procyclical, thus amplifying volatility. Tighter credit therefore leads to both higher aggregate volatility and lower mean growth for a given total investment rate. We next confront the model with a panel of countries over the period 1960-2000 and find that a lower degree of financial development predicts a higher sensitivity of both the composition of investment and mean growth to exogenous shocks, as well as a stronger negative effect of volatility on growth.
Other Sources: http://www.nber.org/papers/w11349
Terms of Use: This article is made available under the terms and conditions applicable to Other Posted Material, as set forth at http://nrs.harvard.edu/urn-3:HUL.InstRepos:dash.current.terms-of-use#LAA
Citable link to this page: http://nrs.harvard.edu/urn-3:HUL.InstRepos:27769097
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