Endogenous Uncertainty and Credit Crunches


Ludwig Straub and Robert Ulbricht. 2018. “Endogenous Uncertainty and Credit Crunches”.
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We develop a theory of endogenous uncertainty where the ability of investors to learn about firm-level fundamentals declines during financial crises. At the same time, higher uncertainty reinforces financial distress, causing a persistent cycle of uncertainty, pessimistic expectations, and financial constraints. Through this channel, a temporary shortage of funds can develop into a long-lasting funding problem for firms. Financial crises are characterized by increased credit misallocation, volatile asset prices, high risk premia, an increased cross-sectional dispersion of returns, and high levels of disagreement among forecasters. A numerical example suggests that the proposed channel may significantly delay recovery from financial shocks.


Revise and resubmit at Review of Economic Studies
Last updated on 08/23/2019