The Effects of Credit Supply Shocks on the Employment of Labor in the LMIE
The effects of credit supply shocks on the employment of the labor force can be amplified by the economy. This is especially true for SMEs that face higher interest rates and higher credit constraints, as well as higher switching costs. In contrast, positive credit supply shocks can benefit these firms. This study examined the effect of credit supply shocks on the employment of labor in the LMIE, or local micro and small-scale industries.
Credit supply shocks are the result of changes in the total supply of credit. These shocks affect borrowers across the distribution, both at the intensive and extensive margins. When credit demand and supply are both loosened simultaneously, the response of households to credit supply shocks is much stronger. These shocks also increase the leverage of the household, which is reflected in the rapid growth of credit.
The long-term consequences of household and bank credit shocks on inflation are unclear. However, recent studies suggest that they may account for up to 15% of the variance in inflation. While the historical context identifies periods when the level of credit supply tended to be a major driver of GDP, the most recent financial crisis uncovered a much smaller role for credit supply shocks. Indeed, the early stages of the financial crisis were characterized more like an oil-price shock recession than a credit supply shock.
Despite this, the impact of credit supply shocks on the economy is still significant. In addition to the monetary policy shocks, the credit supply shocks are the most important source of the fluctuations in GDP. While they are still the most important factor for explaining the fluctuations in GDP, the effect of monetary policy shocks is marginally larger.
The impact of credit supply shocks on the economy is significant and persistent. These shocks can impact the employment and housing markets. For example, the decline in home prices in late 2006 severely reduced the household wealth. Moreover, the collapse of Wachovia bank highlighted the effect of credit supply shocks on employment.
The effect of adverse credit supply shocks on the output of SMEs is significant in both sub-samples, with the impact being larger in countries with a large percentage of SMEs. Further, this study also shows how adverse credit supply shocks affect the interest rate spread. This study shows that adverse credit supply shocks can affect the economic growth of both SMEs and large corporations.
In this study, the average credit supply shocks in the baseline year are averaged over a three-year period. The authors estimated the changes in log of formal employees in small firms by taking into account the number of workers in each labor market-year cell. They show the standard errors of the estimate at the local level and the corresponding 95% confidence intervals.