The Dynamics of Work and Debt
Jeffrey R. Campbell, Zvi Hercowitz
This paper characterizes the labor supply and borrowing of a household facing collateral requirements that limit its debt and compel it to accumulate equity in its durable goods stock. The household’s discount rate exceeds the market rate of interest, so it would otherwise finance increased current consumption by borrowing against future wages. Collateral constraints generate a positive comovement between the household’s debt, the stock of durable goods and labor supply following wage or interest rate shocks–as the household’s labor supply adjusts to finance downpayments on new durable good purchases and the subsequent debt repayment. Increasing the speed of debt repayment amplifies these movements.
