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The Nonlinear Interaction Mechanism between Debt and Real Economy——Theory and Evidence
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TitleThe Nonlinear Interaction Mechanism between Debt and Real Economy——Theory and Evidence  
AuthorPeng Fangping, Lian Yujun, Fan Haichao and Zhankai  
OrganizationSun Yat-sen University; Shanghai University of Finance and Economics;Guangdong University of Foreign Studies;;; 
Key WordsFinancial Stress; Over-leveraging; NMPC; Transmission Effect;  
AbstractHow to assess the impact of debt on the real economy in China and whether China is facing a "debt cliff" have become a hot topic in the academic circle today. In this paper, On account of China`s reality characters, we theoretically analyze the nonlinear interaction mechanism between debt and real economy by using nonlinear model predictive control method. Theoretical results show that when the economy is in a low financial stress state, the real economy is driven significantly by debt positively. But when financial stress rises caused by increasing debt and reaches a certain threshold, the so-called "financial drag effect" on the investment appears and causes the investment and the real economy downward. The study also finds that, in the case of high debt in China today, financial and interest rate liberalization is likely to lead to the economic downturn and even crisis. This paper further makes an empirical research by using nonlinear dynamic panel model from the firm level and confirms the above nonlinear relationship between debt and real economy. The policy implications of the above results are that: On the one hand, on account of high debt level at present, it is not suitable to promote market-oriented interest rate and financial liberalization too fast. On the other hand, further leveraged stimulus policies and cannot help to solve the current economic downturn. On the contrary, deleveraging and stimulating investment by developing stock market and using capital reorganization should be adopted. 
Serial NumberWP947 
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