The role of credit on business cycles

This study investigates whether there is a direct and meaningful effect of credit-related variables on business cycles in terms of magnitude and duration, or not. The research also focuses on the possibility of structural changes caused by the coronavirus pandemic through the credit channel, compared to the pre-pandemic era. For these purposes, real GDP and total credit to private non-financial sector datasets that belong to 31 selected OECD countries were employed as input. The main model used on this study is hierarchical Markov mixture model with Bayesian simulation. To observe possible effects of credit-related variables on business cycles, time-varying transition probabilities were enabled in emphasized model by means of probit model. For the pre-pandemic era, credit-to-GDP ratio tends to decrease the magnitude of cycle whatever the current phase is. Another finding states that annual real credit growth leads to an increase in the magnitude of cycle for both phases during pre-pandemic periods. It can be said that there exists evidence for several effects of credit-related variables on business cycles even though some of them seem to be disappeared with the pandemic era.