Credit Enforcement Cycles

50 Pages Posted: 7 Sep 2017

See all articles by Lukasz A. Drozd

Lukasz A. Drozd

University of Pennsylvania - The Wharton School

Ricardo Serrano-Padial

Drexel University, School of Economics

Date Written: 2017-08-21

Abstract

Empirical evidence suggests that widespread financial distress, by disrupting enforcement of credit contracts, can be self-propagatory and adversely affect the supply of credit. We propose a unifying theory that models the interplay between enforcement, borrower default decisions, and the provision of credit. The central tenets of our framework are the presence of capacity constrained enforcement and borrower heterogeneity. We show that, despite heterogeneity, borrowers tend to coordinate their default choices, leading to fragility and to credit rationing. Our model provides a rationale for the comovement of enforcement, default rates and credit seen in the data.

Keywords: contract enforcement, enforcement capacity, default spillovers, credit crunch, credit cycles, global games, heterogeneity

JEL Classification: D82, D84, D86, G21, O16, O17, O43

Suggested Citation

Drozd, Lukasz A. and Serrano-Padial, Ricardo, Credit Enforcement Cycles (2017-08-21). FRB of Philadelphia Working Paper No. 17-27, Available at SSRN: https://ssrn.com/abstract=3029760

Lukasz A. Drozd (Contact Author)

University of Pennsylvania - The Wharton School ( email )

3641 Locust Walk
Philadelphia, PA 19104-6365
United States

Ricardo Serrano-Padial

Drexel University, School of Economics ( email )

3220 Market St
Philadelphia, PA 19104
United States

HOME PAGE: http://www.serrano-padial.com

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