Aggregate Effects of Collateral Constraints∗

We structurally estimate a dynamic model with heterogeneous firms and collateral constraints. Embedding this model in a general equilibrium framework allows us to quantify the impact of financing frictions on aggregate output and welfare. The structural estimation is based on the well identified causal effect of collateral shocks on firm level corporate investment in the United States. The estimates imply that lifting financing frictions would increase welfare by 9.4% and aggregate output by 11%. Half of this aggregate output gain are due to an increase in the aggregate stock of capital, one quarter is due to a lower aggregate labor supply, while the remaining quarter is due to a higher aggregate productivity from a better allocation of inputs across heterogeneous firms. ∗This is a substantially revised version of our earlier paper with the same title. We are grateful to conference and seminar participants in Berkeley, Capri, HBS, NYU-Stern, Stanford, the LSE, the Chicago Fed, WFA, the FED Board for their comments. We warmly thank Toni Whited for sharing her fortran code with us and for her insightful discussion at WFA. Thesmar is grateful to the Fondation Banque de France for its financial support. All errors are our own. †HEC Paris ‡Sciences Po and CEPR §Princeton University ¶UC Berkeley, CEPR and NBER ‖MIT and CEPR There is an accumulating body of evidence showing the causal effect of financing frictions on firms’ investment decisions at the micro-level.1 While this literature safely rejects the null hypothesis that firms are unconstrained financially, it does not measure if these constraints matter quantitatively. In this paper, we use a quantitative model that matches these findings to investigate the aggregate effects of financing frictions. We focus on a pervasive source of financing friction – collateral constraints. Our approach expands on the existing literature by (i) estimating our structural model using well-identified firm-level evidence that collateral constraints causally affect investment and (ii) nesting this model in a general equilibrium framework with heterogenous firms to study aggregate effect of collateral constraints. Our estimated model shows that even in a developed country like the U.S., collateral constraints can have a large effect on welfare. Compared to a counterfactual economy without collateral constraints, welfare in our constrained economy is lower by 9.4%, and output by 11%. Of this ouptput loss, about a quarter can be attributed to lower aggregate TFP due to input misallocation.2. The remaining output loss is due to a lower aggregate capital stock when firms are constrained. Thus, collateral constraints induce significant misallocations, but their impact on the aggregate capital stock is larger. We estimate our structural model by targeting the sensitivity of investment to exogeneous shocks to firms’ real estate value. Starting with Gan (2007) and Chaney et al. (2012), a large literature documents how corporate investment responds to real estate shocks and argues that such sensitivity is evidence of financing constraints, insofar that real estate shocks are shocks to debt capacity that are uncorrelated with investment opportunity. Relying on this insight, we use this sensitivity to identify the parameter governing financing constraints in our model. The existing literature that estimates similar models (see for instance Hennessy and Whited (2007)) typically targets capital structure decisions such as the average debt to capital ratio. We argue however that this moment is driven by many other forces (trade credit, inventory, unsecured debt 1See, among many others, Lamont (1997), Rauh (2006), Chaney et al. (2012), Blanchard et al. (1994) for the effect of financial frictions on investment and Benmelech et al. (2010) or Chodorow-Reich (2013) for the effect of financial frictions on employment 2The costs of input misallocation is the focus of Hsieh and Klenow (2009), Moll (2014), Midrigan and Xu (2014).