TY - JOUR AU - Aghion,Philippe AU - Angeletos,George-Marios AU - Banerjee,Abhijit AU - Manova,Kalina TI - Volatility and Growth: Credit Constraints and Productivity-Enhancing Investment JF - National Bureau of Economic Research Working Paper Series VL - No. 11349 PY - 2005 Y2 - May 2005 UR - http://www.nber.org/papers/w11349 L1 - http://www.nber.org/papers/w11349.pdf N1 - Author contact info: Philippe Aghion Department of Economics Harvard University 1805 Cambridge St Cambridge, MA 02138 Tel: 617/495-6675 Fax: 617/495-4341 E-Mail: paghion@fas.harvard.edu George-Marios Angeletos Department of Economics MIT E52-251 50 Memorial Drive Cambridge, MA 02142-1347 Tel: 617/452-3859 Fax: 617/253-1330 E-Mail: angelet@mit.edu Abhijit Banerjee MIT Department of Economics E52-252d 50 Memorial Drive Cambridge, MA 02142-1347 Tel: 617/253-8855 Fax: 617/253-1330 E-Mail: banerjee@mit.edu Kalina Manova Department of Economics Stanford University 579 Serra Mall Stanford, CA 94305 Tel: 650/725-9967 Fax: 650/725-5702 E-Mail: manova@stanford.edu AB - We examine how credit constraints affect the cyclical behavior of productivity-enhancing investment and thereby volatility and growth. We first develop a simple growth model where firms engage in two types of investment: a short-term one and a long-term productivity-enhancing one. Because it takes longer to complete, long-term investment has a relatively less procyclical return but also a higher liquidity risk. Under complete financial markets, long-term investment is countercyclical, thus mitigating volatility. But when firms face tight credit constraints, long-term investment turns procyclical, thus amplifying volatility. Tighter credit therefore leads to both higher aggregate volatility and lower mean growth for a given total investment rate. We next confront the model with a panel of countries over the period 1960-2000 and find that a lower degree of financial development predicts a higher sensitivity of both the composition of investment and mean growth to exogenous shocks, as well as a stronger negative effect of volatility on growth. ER -