Description

Financial frictions have been used to enrich mechanism transmission in macroeconomics. However, the predictions of real business cycle models of costly external finance imply a procyclical default rate, external premium and relative price of capital wh ich seems at odd with the data. In this article, we include technology shocks that affect the aver age productivity and idiosyncratic risk of capital producers in a standard costly external finance m odel. These elements enhance the model to deliver a countercyclical default rate, external finance a nd relative price of capital premium which is more consistent with the data and contrary to the resu lt obtained with a sector neutral productivity shock. Intuitively, if the entrepreneurs' investment proj ects become more productive in average, the relative price of capital and the default rate fall while th e investment and output increase. Using data on the relative price of capital, we perform a calibration of this type of shocks which highlights its business cycle relevance.