Household Leverage and the Recession

42 Pages Posted: 25 Jul 2016

See all articles by Virgiliu Midrigin

Virgiliu Midrigin

New York University (NYU) - Department of Economics

Thomas Philippon

New York University (NYU) - Department of Finance; National Bureau of Economic Research (NBER)

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Date Written: July 2016

Abstract

A salient feature of the Great Recession is that regions that experienced larger declines in household debt also experienced larger declines in employment. We study a model in which liquidity constraints amplify the response of employment to changes in debt. We estimate the model using panel data on consumption, employment, wages and debt for U.S. states. Though successful in matching the cross-sectional evidence, the model predicts that deleveraging cannot, by itself, account for the large drop in aggregate employment in the U.S. The 25% decline in household debt observed in the data leads to a modest 1.5% drop in the natural rate of interest, and is easily offset by monetary policy. Household deleveraging is more potent, however, in the presence of other shocks that trigger the zero lower bound on interest rates. In the presence of such shocks household deleveraging accounts for about half of the decline in U.S. employment.

Keywords: great recession, Household Debt, Regional Evidence, zero lower bound

JEL Classification: E2, E4, E5, G0, G01

Suggested Citation

Midrigin, Virgiliu and Philippon, Thomas, Household Leverage and the Recession (July 2016). CEPR Discussion Paper No. DP11407, Available at SSRN: https://ssrn.com/abstract=2814082

Virgiliu Midrigin (Contact Author)

New York University (NYU) - Department of Economics ( email )

269 Mercer Street, 7th Floor
New York, NY 10011
United States

Thomas Philippon

New York University (NYU) - Department of Finance ( email )

Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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