Financial frictions, labour markets, and the macroeconomy

Abstract

In the first chapter, we use detailed Danish micro-data and study how a credit-driven boom in consumer demand affects firm dynamics. We exploit the introduction of interest-only mortgages in 2003 to establish a structural break in Danish households’ spending capacity. A difference-in-differences approach indicates that the reform sharply increases consumers’ expenditure. This demand shock generates revenues and profits for Danish firms and results in the creation of at least 2,500 additional jobs between 2004 and 2010. These positions are concentrated in the non-tradable sector. Our results indicate that mortgage markets shape the size and composition of real economic activity during expansion phases. The second chapter shows that the supply side of credit is a major factor for hampered monetary policy transmission in monopolistic banking markets. Our data covering all 1,555 small and medium sized banks in Germany provides a clear way to partial out demand shocks; we are thus able to show that while market-power banks charge higher loan rates, they spare their borrowers a part of exogenous monetary policy contractions and furthermore with-hold a substantial part of rising rates from their depositors. Because high market-power banks are relatively more profitable, these banks seem to be able to insure their relationship-customers against adverse shocks. In the third chapter, I develop a model where firms need to borrow the wage bill under financial frictions. I discuss the implications of intraperiod financial contracts for real and financial variables in a most simple model without capital. Financial variables such as the external finance premium in this setup behave perversely. Real variables’ responses are hampered compared to a standard Real Business Cycle model. Then, I implement intraperiod financial contracts and show this can eliminate the problems to some extent. Financial variables now move as observed in the data. Unlike in the original model by Bernanke et al. (1999), the responses of real variables, especially output and labour, however remain muted in response to a positive technology shock.