Abstract:
This paper deals with credit market imperfections and idiosyncratic risks in a twosector heterogeneous agent dynamic general equilibrium model of occupational choice. We focus especially on the effects of tightening financial constraints on macroeconomic performance, entrepreneurial risktaking, and social mobility. Contrary to many models in the literature, our comparativestatic results cover a broad range for borrowing constraints, from an unrestrained to a perfectly constrained economy. In our baseline model, we find substantial gains in output, welfare, and wealth equality associated with credit market improvements. The marginal gains from relaxing constraints are largest for empirically relevant debtequity ratios. Interestingly, the entrepreneurship rate and social mobility respond nonmonotonically to a change in the tightness of financial constraints. The results crucially depend on the degree of income persistence and feedback effects in general equilibrium, where optimal firm sizes and the demand for credit are determined endogenously.
