Financial constraints dampen investment impact on economy, shift focus to risk premiums.
Investment shocks play a big role in the economy, affecting things like output and interest rates. These shocks are connected to financial issues because money is needed to turn goods into capital. However, when financial constraints are considered, the impact of investment shocks becomes less important. In a model with these constraints, a drop in capital value limits borrowing, leading to changes in consumption and investment. Risk premium shocks become more significant in this scenario, while the influence of investment shocks decreases.