Sudipto Karmakar, Alexandra Varadi and Sarah Venables
This post reviews the literature on the consequences of debt for corporate and macroeconomic outcomes, drawing both on the pandemic period and on previous financial crises. Lessons from previous crises show that high leverage can amplify corporate risks and economic downturns by: increasing reliance on external financing that may dry up in stress; through debt overhang problems; or by increasing linkages between corporates and other sectors of the economy. Corporate debt may also be correlated with negative outcomes in the pandemic as well, but it is still early to draw direct conclusions.
In the aftermath of the 2007/8 financial crisis bank lending to firms fell back sharply and investment plummeted. And at the same time, growth in labour productivity and wages fell, with neither fully recovering since (Chart 1). Are these facts causally linked, and if so, in which direction? Did firms stop borrowing because they had no good uses for the money, or did banks cut lending, making it harder for firms to do business? In a new paper, we find a way to distinguish between the two. We measure how changes in the amount firms were able to borrow affected how much they invested, how much their workers produced and earned, and how likely firms were to survive.