On the Importance of Household versus Firm Credit Frictions in the Great Recession

76 Pages Posted: 28 Sep 2020

See all articles by Patrick J. Kehoe

Patrick J. Kehoe

Federal Reserve Bank of Minneapolis - Research Department; University of Minnesota - Twin Cities - Department of Economics; National Bureau of Economic Research (NBER)

Pierlauro Lopez

Federal Reserve Banks - Federal Reserve Bank of Cleveland

Virgiliu Midrigan

New York University (NYU)

Elena Pastorino

Stanford University - Department of Economics

Date Written: September 25, 2020

Abstract

Although a credit tightening is commonly recognized as a key determinant of the Great Recession, to date, it is unclear whether a worsening of credit conditions faced by households or by firms was most responsible for the downturn. Some studies have suggested that the household-side credit channel is quantitatively the most important one. Many others contend that the firm-side channel played a crucial role. We propose a model in which both channels are present and explicitly formalized. Our analysis indicates that the household-side credit channel is quantitatively more relevant than the firm-side credit channel. We then evaluate the relative benefits of a fixed-sized transfer to households and to firms that improves each group’s access to credit. We find that the effects of such a transfer on employment are substantially larger when the transfer targets households rather than firms. Hence, we provide theoretical and quantitative support to the view that the employment decline during the Great Recession would have been less severe if instead of focusing on easing firms’ access to credit, the government had expended an equal amount of resources to alleviate households’ credit constraints.

Keywords: credit constraints, collateral constraints, Great Recession, financial recession, government transfers

JEL Classification: E3, E32, E62, G51, J2, J6

Suggested Citation

Kehoe, Patrick J. and Lopez, Pierlauro and Midrigan, Virgiliu and Pastorino, Elena, On the Importance of Household versus Firm Credit Frictions in the Great Recession (September 25, 2020). FRB of Cleveland Working Paper No. 20-28, Available at SSRN: https://ssrn.com/abstract=3699426 or http://dx.doi.org/10.2139/ssrn.3699426

Patrick J. Kehoe

Federal Reserve Bank of Minneapolis - Research Department ( email )

90 Hennepin Avenue
Minneapolis, MN 55480
United States
612-204-5525 (Phone)
612-204-5515 (Fax)

University of Minnesota - Twin Cities - Department of Economics ( email )

271 19th Avenue South
Minneapolis, MN 55455
United States

National Bureau of Economic Research (NBER) ( email )

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Pierlauro Lopez (Contact Author)

Federal Reserve Banks - Federal Reserve Bank of Cleveland ( email )

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Cleveland, OH 44101-1387
United States

Virgiliu Midrigan

New York University (NYU)

Bobst Library, E-resource Acquisitions
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New York, NY 10003-711
United States

Elena Pastorino

Stanford University - Department of Economics ( email )

Landau Economics Building
579 Serra Mall
STANFORD, CA 94305-6072
United States

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