Finance: Research, Policy and Anecdotes

This year’s Ieke van den Burg prize goes to Karsten Mueller and Emil Verner for their paper Credit Allocation and Macroeconomic Fluctuations and will be formally awarded on 1 October.

This is a paper very close to my own interests.  A long literature has shown the positive relationship between financial development (often measured by credit to the private sector, relative to GDP) and economic growth but also the predictive power of rapid credit growth for financial crises. However, until ten years ago or so, we always focused on aggregate credit.  In one of my lesser-known papers (together with Berrak Bahadir, Valev Neven and Feliz Rioja) we showed tentative evidence that it is enterprise rather than household credit that can explain the positive growth effect of financial development on economic growth. Atif Mian and Amir Sufi have argued that expansions in credit supply, operating primarily through household demand for credit, have been an important driver of business cycles.  That’s where Karsten came in – during his PhD time, he collected detailed data on the sectoral composition of credit across a large number of countries over time. Emil and Karsten use these data to study the relationship between credit expansions, macroeconomic fluctuations, and financial crises. They find stark differences between different types of corporate credit expansions. In particular, while lending to the construction, real estate, and non-tradable sectors are associated with a boom-bust pattern in output and elevated financial crisis risk, similar to household credit booms, there is no such pattern for tradable-sector credit expansions, which are often followed by stronger output growth. There are thus good and bad credit booms! And who receives credit is indeed important for growth and stability! Ultimately, it is not simply about financial development, but the use of the funding by banks.

This paper is not only an important contribution to the literature on the role of the financial sector in macroeconomic fluctuations, but sets the stage for an important research and policy agenda.  It reinforces the call for more micro-data and looking beyond aggregates. It also implies that macroprudential policy should focus as much on sectoral as on aggregate risks.

Overview