Aghion, PhilippeAngeletos, George-MariosBanerjee, AbhijitManova, Kalina2016-07-292005Aghion, 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.http://nrs.harvard.edu/urn-3:HUL.InstRepos:27769097We 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.en-USResearch Paper or Report2016-07-29