| Abstract: | In this paper we argue that firms' financial distress shouldplay a greater role in the macroeconomic analysis of the businesscycle. We provide a non-technical account of a general equilibriummodel that exhibits financially-driven equilibrium cycles. Weshow that the empirical evidence is widely supportive of thekey hypothesis and implications of our approach. We use themodel in order to evaluate the effects of several policy measures.It turns out that deepening the market for second-hand capitalgoods, subsidizing the interest payments of companies whichstart up when financial conditions are tight, and bailing outsome companies in default can indeed 'stabilize' the economy.By way of generalization, we may say that the policy reactionto a financially driven bust should be accommodating. |
