The Extent and Efficiency of Credit Reallocation during Economic Downturns

Author Name SAKAI Koji (Kyoto Sangyo University) / UESUGI Iichiro (Faculty Fellow, RIETI)
Creation Date/NO. February 2019 19-E-004
Research Project Study Group on Corporate Finance and Firm Dynamics
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First draft: Feb 2019
Revised: Nov 2020


The extant theoretical literature on credit reallocation yields conflicting predictions on both the extent and the efficiency of reallocation during economic downturns. Using a comprehensive dataset of Japanese firms of all sizes spanning a period of more than 30 years, including the period of prolonged economic stagnation called "Japan's Lost Decade," we examine which predictions are consistent with the data to find the following: (1) the extent of credit reallocation is smaller in recessions than in expansions, which is attributable to the decreasing extent of credit creation; (2) this tendency was more pronounced during the Lost Decade, when not only the extent of credit creation but also the extent of credit destruction for smaller firms dropped significantly; (3) credit reallocation generally is efficiency-enhancing, but the extent becomes smaller in recessions and it became efficiency-reducing during the Lost Decade; and (4) one likely reason for this efficiency-reducing reallocation during the Lost Decade is crowding-out by zombie firms during the Lost Decade, while financial constraints on productive firms may be another reason for inefficiencies in the credit market.

This is the English version of the Japanese Discussion Paper (15-J-035) with some additional information and changes.