Discussion paper

DP7208 The Misfortune of Non-financial Firms in a Financial Crisis: Disentangling Finance and Demand Shocks

If a non-financial firm does not do well in a financial crisis, it could be due to either a contraction of demand for its output or a contraction of supply of external finance. We propose a framework to assess the relative importance of the two shocks, making use of a measure of a firm's financial constraint based on Whited and Wu (2006) and another measure of sensitivity to a demand shock, and apply it to the 2007-2008 crisis. We find robust evidence suggesting that both channels are at work, but that a finance shock is economically more important in understanding the plight of non-financial firms.

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Citation

Wei, S and H Tong (2009), ‘DP7208 The Misfortune of Non-financial Firms in a Financial Crisis: Disentangling Finance and Demand Shocks‘, CEPR Discussion Paper No. 7208. CEPR Press, Paris & London. https://cepr.org/publications/dp7208