“Money, Credit and Cross-Sector Comovement” by Zhixiong ZENG
The cross-sector comovement of output, employment, and investment is one of the defining characteristics of the business cycle. The limited number of previous studies have been confined to the real business cycle framework. In this paper we develop a two-sector general equilibrium model with money and credit to study the comovement phenomenon. It is shown that both money and productivity shocks can generate procyclicality of sectoral activities and positive cross-sector correlations of output, employment, and investment through a working capital channel. In our model, firms in each sector borrow in the credit market to finance their purchase of labor input, part of which is used in the adjustment process of capital stock. The shocks affect sectoral employment and investment through their effects on interest rates and external finance premia.