Can the COVID Bailouts Save the Economy?
44 Pages Posted: 5 May 2020 Last revised: 12 May 2020
Date Written: May 11, 2020
The covid-19 crisis has led to a sharp deterioration in firm and bank balance sheets. The government has responded with a massive intervention in corporate credit markets. We study equilibrium dynamics of macroeconomic quantities and prices, and how they are affected by government policy. The interventions prevent a much deeper crisis by reducing corporate bankruptcies by about half and short-circuiting the doom loop between corporate and financial sector fragility. The additional fiscal cost is zero since program spending replaces what would otherwise have been spent on intermediary bailouts. The model predicts rising interest rates on government debt. We propose a more effective intervention with lower fiscal cost. Finally, we study longer-run consequences for firm leverage and intermediary health when pandemics become the new normal.
Keywords: COIVD-19, corporate bailout, credit crisis, financial intermediation, government debt
JEL Classification: G12, G15, F31
Suggested Citation: Suggested Citation