Financial conditions and labor productivity over the business cycle

- The pro-cyclicality of productivity has substantially declined since the mid 1980s.
- We provide evidence that financial shocks have impinged on productivity post 1984.
- A model with credit frictions and financial shocks is consistent with the evidence.
- Binding collateral constraints introduce a wedge in firms demand for labor.
- A negative financial shock increases the wedge causing firms to lower labor demand.

The cyclical behavior of productivity has noticeably changed since the mid-80s. We provide VAR evidence that financial shocks have an important effect on productivity. We offer a novel explanation based on the effect of binding collateral constraints on labor demand.