Financial Development, Labor Markets, and Aggregate Productivity: Evidence from Brazil

We estimate the effect of an increase in the availability of bank credit on the employment and the earnings of highand low-skilled workers. To do so, we consider a bankruptcy reform that increased the legal protections of secured creditors, which led to an expansion of bank credit to Brazilian firms. We use detailed administrative data and an empirical strategy that compares changes in outcomes for financially constrained firms, which were affected by the bankruptcy reform, with unconstrained firms, which were largely unaffected by the reform. Following the bankruptcy reform and subsequent expansion in credit, constrained firms increased employment, especially of high-skilled workers. We also observe an increase in earnings, with gains concentrated on skilled workers and on workers who were employed at constrained firms prior to the reform. To rationalize these findings, we design a model in which heterogeneous producers face constraints in their ability to borrow and have production functions featuring capital-skill complementarity. Using this framework, we estimate that the reallocation of resources induced by the bankruptcy reform accounts for 36 percent of the observed increase in aggregate productivity in Brazil during the 2000s. ∗Julia Fonseca thanks Atif Mian, Mark Aguiar, Will Dobbie, and Motohiro Yogo for their continued guidance and support, Adrien Matray for invaluable advice throughout this project, and Leah Boustan, Markus Brunnermeier, Victor Duarte, Maryam Farboodi, Ben Moll, Steve Redding, David Schoenherr, Molly Schnell, Arlene Wong, Wei Xiong, Owen Zidar, and seminar participants at Princeton University and at the Central Bank of Brazil for helpful comments. This research received financial support from the Alfred P. Sloan foundation through the NBER Household Finance small grant program and from the Becker Friedman Institute through its Macro Financial Modeling Initiative. The views in this paper are those of the authors and do not reflect the opinions of the Central Bank of Brazil. †juliaff@princeton.edu Financial constraints are a pervasive characteristic of lowand middle-income economies. In Brazil, for instance, 45 percent of firms identify access to finance as a major constraint (2009 World Bank Enterprise Survey). Extensive literature has found that financial frictions affect economic development not only by slowing down capital accumulation but also by causing capital to be misallocated across producers.1 Because there is complementarity between capital and labor, these findings suggest a role for the cost and availability of external finance in determining labor market outcomes. Moreover, financial frictions may also impact the skill composition of a firm’s workforce, as well as the returns to skill, as skilled and unskilled labor potentially differ in how complementary they are to capital. This paper sheds light on the effect of increased access to bank credit on the employment and earnings of highand low-skilled workers. To conduct our analysis, we assemble a comprehensive firm-level panel of formally registered Brazilian firms by merging matched employer-employee data with credit registry data and with data on real outcomes such as assets, investment, and output. Our identification strategy makes use of a 2005 reform to the legislation governing bankruptcy proceedings in Brazil, which significantly strengthened the rights of secured creditors and led to an increase in the borrowing capacity of firms. We also develop a framework that allows us to quantify the effect of the credit expansion caused by the 2005 bankruptcy reform on aggregate productivity, taking into account its impact on capital and on both skilled and unskilled labor. We start by documenting that the 2005 bankruptcy reform significantly loosened credit constraints. In order to identify financially constrained firms, we estimate the firm-level wedge between the marginal revenue product of capital and its user cost. We sort firms into quartiles according to this measure, with firms in the fourth quartile being the most financially constrained and firms in the first quartile being the least constrained. We find that the reform led to a sizable and significant increase in firms’ access to bank credit, with the most-constrained firms experiencing a 7 percent increase in bank credit following the reform relative to the least-constrained firms. Our research has three main empirical results. First, we find that constrained firms increase their employment of both skilled and unskilled workers, but especially of skilled workers, when access to credit is expanded. In particular, we find that firms in the fourth quartile of our measure of financial constraints experience an 8.5 percent increase in the ratio of skilled to unskilled workers and a 6.3 percent increase in total employment relative to firms in the first quartile. The increase in total employment is driven by both an increase in hiring and in worker retention, and the expansion of constrained firms is partly driven by the poaching of employees previously working in unconstrained firms. Following the loosening of credit constraints, constrained firms see a 3.9 percent increase in 1 Early work includes King and Levine (1993), Jayaratne and Strahan (1996), and Rajan and Zingales (1998). For studies on the impact of financial frictions on capital accumulation, see also Levine and Zervos (1998) and Rioja and Valev (2004). See, for instance, Bertrand, Schoar, and Thesmar (2007), Buera, Kaboski, and Shin (2011), Moll (2014), Cong et al. (2017), Catherine et al. (2017), and Bai et al. (2018) for studies on the impact of financial frictions on the allocation of capital.