Accounting for Debt Service: The Painful Legacy of Credit Booms
56 Pages Posted: 28 Jun 2017
Date Written: June 27, 2017
When taking on new debt, borrowers commit to a pre-specified path of future debt service. This implies a predictable lag between credit booms and peaks in debt service which, in a panel of household debt in 17 countries, is four years on average. The lag is driven by two key features of the data: (i) new borrowing is strongly auto-correlated and (ii) debt contracts are long term. The delayed increase in debt service following an impulse to new borrowing largely explains why credit booms are associated with lower future output growth and higher probability of crisis. This provides a systematic transmission channel whereby credit expansions can have adverse long-lasting real effects.
Keywords: new borrowing, debt service, financial cycle, real-financial linkages
JEL Classification: E17, E44, G01, D14
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