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Federal Reserve Bank of St. Louis
Working Papers
International Credit Markets and Global Business Cycles
Patrick A. Pintus
Yi Wen
Xiaochuan Xing

This paper stresses a new channel through which global financial linkages contribute to the co-movement in economic activity across countries. We show in a two-country setting with borrowing constraints that international credit markets are subject to self-fulfilling variations in the world real interest rate. Those expectation-driven changes in the borrowing cost in turn act as global shocks that induce strong cross-country co-movements in both financial and real variables (such as asset prices, GDP, consumption, investment and employment). When firms around the world benefit from unexpectedly low debt repayments today, they borrow and invest more, which leads to excessive supply of collateral and of loanable funds at a low interest rate, thus fueling a boom in both home and foreign economies. As a consequence, business cycles are synchronized internationally. Such a stylized model thus offers one way to rationalize both the existence of world business-cycle factor documented by recent empirical studies through dynamic factor analysis and such a factor’s intimate link to global financial markets.

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Patrick A. Pintus & Yi Wen & Xiaochuan Xing, International Credit Markets and Global Business Cycles, Federal Reserve Bank of St. Louis, Working Papers 2018-9, 14 May 2018.
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Keywords: World Interest Rate; International Co-Movement; Self-Fulfilling Equilibria
DOI: 10.20955/wp.2018.009
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