The Effects of Macroeconomic Shocks: Household Financial Distress Matters

Abstract

When a macroeconomic shock arrives, variation in household balance-sheet health (captured by the presence of financial distress "FD"), leads to differential access to credit, and hence a distribution of consumption responses. As we document, though, over the past two recessions, households in prior FD also experienced macroeconomic shocks more intensely than others, leading to a distribution of shock severity. Thus, quantifying the importance of both dimensions of heterogeneity (FD or shock-severity) for consumption requires a structural model. We find that heterogeneity in FD matters more than dispersion in shock-severity for shaping the responses of individual and aggregate consumption to any shock.

Keywords: consumption, credit card debt, recession, bankruptcy, foreclosure, mortgage, delinquency, financial distress

JEL Classification: D31, D58, E21, E44, G11, G12, G21