Christian Bustamante

Working Papers

Debt Overhang, Monetary Policy and Economic Recoveries After Large Recessions

This paper explores why conventional monetary policy was insufficient in mitigating the severity of the 2007 U.S. recession and unsuccessful thereafter in stimulating the economic recovery. Using a quantitative model alongside firm-level data, I show that accounting for individual firms’ debt structures is crucial in explaining why business investment fell so dramatically through the recession and remained low for several years despite the Federal Reserve repeatedly cutting its target interest rate until conventional policy tools were exhausted. Using a sample of publicly traded firms, I establish that firms with greater long-term debt exposure experienced larger contractions and slower recoveries in their investment. Next, I show that debt overhang episodes were unusually prevalent over the years following the onset of the recession, and particularly so among firms relying more heavily on long-maturing debt.
I develop a New Keynesian model where heterogeneous firms finance investment using defaultable long-term nominal debt, and a central bank faces an explicit zero lower bound constraint on the short-term nominal interest rate, to understand these microeconomic observations and their implications for aggregate fluctuations. In the model, the greater a firm’s leverage, the higher its likelihood of experiencing a debt overhang episode following a large aggregate shock. The incidence of debt overhang episodes reduces investment in 6 percentage points in the stationary equilibrium and contributes by itself an additional 3.5 percentage points in further slowing the pace at which investment recovers following a financial shock that resembles the Great Recession. Furthermore, these debt overhang problems compound with (1) debt deflation, and (2) the monetary authority’s inability to restore inflation once nominal interest rates reach the zero lower bound. Together, firms’ long-maturity debt positions and the binding zero lower bound are critical in transmitting the consequences of a deep recession into a remarkably anemic recovery in aggregate investment. 

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More Money for Some: The Redistributive Effects of Open Market Operations

(New version September 2021)

Using a general equilibrium search-theoretic model of money, I study the distributional effects of implementing monetary policy through open market operations. In my model, heterogeneous households trade bilaterally among themselves in a frictional market and save using cash and illiquid short-term nominal government bonds. Wealth effects generate slow adjustments in household portfolios following their trading activity in decentralized markets, giving rise to a rich, persistent, and non-degenerate distribution of assets. The model reproduces the persistent differences in asset levels and portfolios across households observed in the data, which is crucial to quantitatively assess the incidence of monetary policy changes at the individual level. I find that an open market operation targeting a higher nominal interest rate requires increasing the relative supply of bonds, raising the ability of households to self-insure against idiosyncratic shocks. As a result, in the long run, inequality falls, and the inefficiencies in decentralized trading shrink. This leads households that are relatively poor and more liquidity-constrained to benefit the most by increasing their consumption and welfare.

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Code that solves a search model with only one asset (coming soon).


Work in Progress

Intergenerational Redistribution and Monetary Policy

(with Heejeong Kim, Eunseong Ma)

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The Household Credit Channel of Monetary Policy – A Bottom-up Approach

(with Katya Kartashova, Soyoung Lee, and Alexander Ueberfeldt)


On the Sources of Ex-Ante Firm Heterogeneity

(with Xing Guo, Thomas Pugh)


Protectionism, International Trade, and Inequality

(with Heejeong Kim)

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Published Papers

Countercyclical Reserve Requirements in a Heterogeneous-Agent and Incomplete Financial Markets Economy

Journal of Macroeconomics (2015), Vol. 46: 55–70. (with Franz Hamann)

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Other Papers

Constant-Interest-Rate Projections and their Indicator Properties

Borradores de Economia, Banco de la República (2012), No. 696. (with Luis E. Rojas)

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Race as Determinant on the Access of a Job of Quality: A Study for Cali

Ensayos sobre Política Económica (ESPE) (2008), Vol. 26, No. 57: 130–175. (with Santiago Arroyo)

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