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Macroeconomics of Delayed Capital Liquidation

Cui, W; (2022) Macroeconomics of Delayed Capital Liquidation. Journal of the European Economic Association , Article jvac023. 10.1093/jeea/jvac023. (In press). Green open access

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Abstract

This paper studies the macroeconomic effects of capital reallocation with financial shocks. I develop a model in which firms face borrowing constraints, idiosyncratic productivity shocks, and idiosyncratic liquidation costs. The idiosyncratic risks of productivity and liquidation costs generate an option value of staying in business and a liquidation delay for unproductive firms. A new feature arises from the delay. Unproductive firms that are not liquidated increase their leverage over time, pushing them to hit the borrowing limit. I show that adverse financial shocks that tighten borrowing constraints can raise the option value, and equilibrium effects can further delay capital liquidation and reallocation. Capital is thus persistently misallocated, leading to long-lasting economic contractions.

Type: Article
Title: Macroeconomics of Delayed Capital Liquidation
Open access status: An open access version is available from UCL Discovery
DOI: 10.1093/jeea/jvac023
Publisher version: https://doi.org/10.1093/jeea/jvac023
Language: English
Additional information: © The Author(s) 2022. Published by Oxford University Press on behalf of European Economic Association. This is an Open Access article distributed under the terms of the Creative Commons Attribution License (https://creativecommons.org/licenses/by/4.0/), which permits unrestricted reuse, distribution, and reproduction in any medium, provided the original work is properly cited.
Keywords: E22 - Investment; Capital; Intangible Capital; CapacityE32 - Business Fluctuations; CyclesE44 - Financial Markets and the MacroeconomyG11 - Portfolio Choice; Investment Decisions
UCL classification: UCL
UCL > Provost and Vice Provost Offices > UCL SLASH
UCL > Provost and Vice Provost Offices > UCL SLASH > Faculty of S&HS
UCL > Provost and Vice Provost Offices > UCL SLASH > Faculty of S&HS > Dept of Economics
URI: https://discovery.ucl.ac.uk/id/eprint/10140144
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