In a transition economy with a rigid production structure and a core of unredeemable enterprises, a restrictive credit policy may result in a Laffer-curve response: the percentage of enterprise restructuring may fall with tighter credit. the institution is that when a large fraction of firms in value-subtracting and unable to adjust, a credit contraction subtracts more liquidity than the enterprise sector con generate internally. A very high degree of illiquidity may induce even reformable firms to resist adjustment and extend unenforceable trade credit to their unrestructured trading partners, in the expectation that other firms will choose the same strategy. As such trade credit soon becomes overdue, a massive amount of arrears may force an ex post financial bailout, thus validating the collusive strategy. Thus an unrealistically tight stabilization policy may lead to increased inertia and reduced adjustment, and result in an ex post looser monetary policy. However, the real cause of policy failure arises from the indiscriminate nature of aggregate credit ceilings, a macroeconomic toll which is inadequate by itself to properly distinguish across firms' capacity to adjust, thus implicitly encouraging mass collusion.
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