Report
Financial frictions and fluctuations in volatility
Abstract: During the recent U.S. financial crisis, the large decline in economic activity and credit was accompanied by a large increase in the dispersion of growth rates across firms. However, even though aggregate labor and output fell sharply during this period, labor productivity did not. These features motivate us to build a model in which increased volatility at the firm level generates a downturn but has little effect on labor productivity. In the model, hiring inputs is risky because financial frictions limit firms' ability to insure against shocks that occur between the time of production and the receipt of revenues. Hence, an increase in idiosyncratic volatility induces firms to reduce their inputs to reduce such risk. We find that our model can generate about 67% of the decline in output of the Great Recession of 2007?2009.
Keywords: Recessions; Credit;
Access Documents
File(s): File format is application/pdf http://www.minneapolisfed.org/publications_papers/pub_display.cfm?id=4919
Bibliographic Information
Provider: Federal Reserve Bank of Minneapolis
Part of Series: Staff Report
Publication Date: 2012
Number: 466