UC Irvine

This dissertation consists of three chapters which study the relationship between over-the-counter (OTC) markets for credit, monetary policy, and macroeconomic activity. In the first chapter, I introduce an OTC credit default swap (CDS) market into a search model of credit and unsecured debt. The model is developed to study the effects of CDS trading on liquidity, risk sharing, and corporate borrowing costs in an economy where agents are matched trilaterally to trade capital and issue debt. With firms subject to an exogenous default risk, risk averse lenders have the opportunity to purchase a CDS from insurers as protection against their underlying bonds. The model raises implications for corporate credit and investment demand; borrowing costs that vary with the degree of default risk; and potential issues pertaining to moral hazard, empty creditors, and financial sector stability. In addition, its theory corroborates empirical evidence regarding the relationship between corporate debt markets and derivatives trading. The second chapter investigates the implications of sector-specific credit supply shocks on real economic activity in the United States from 1952 to 2018. These sectors include private households, non-financial corporations, and banks. Within a structural vector autoregression (VAR) framework, I employ a novel sign-restriction strategy to identify one monetary policy shock, two aggregate macroeconomic shocks, and three sector-specific credit supply shocks. I find evidence that credit supply shocks not only vary by the sectors in which they arise, but also by their consequences for business cycle dynamics. Credit shocks originating in the banking sector can explain up to 25% of output fluctuations while those arising in the household and corporate sectors can each explain up to 15%. In addition, household and bank credit shocks may hold long-run consequences for inflation explaining up to 15% of its fluctuations. Within a historical context, the model identifies several periods when credit supply has been a significant driver of GDP. With respect to the 2008 financial crisis, I find a smaller role for credit shocks relative to aggregate supply shocks than is typically found in the literature. This supports recent empirical evidence suggesting that the early stages of the crisis were more reminiscent of an oil price shock recession. The third chapter analyzes the lending channel of monetary policy exclusively through credit card and small business bank loans. A time-varying parameter VAR is estimated providing evidence that the direction and strength in which credit card and small business loans respond to monetary policy are time-dependent. To investigate these findings analytically, I develop a general equilibrium model of consumer credit card and small business lending. Households and firms use a combination of monetary assets and bank loans to finance random consumption and investment opportunities. In accordance with conventional theory, when borrowers are sufficiently constrained, a monetary tightening reduces lending through the balance sheet subchannel of monetary policy. However, when borrowers are less constrained, a monetary tightening raises unsecured debt limits through a second subchannel and lending expands. This second subchannel, operating solely through unsecured credit, offers a new theory to justify an expansionary loan response to tightened monetary policy that the traditional lending channel literature has yet to address.