Economists have been paying attention to the mechanism of financial factors in the economic cycle for a long time. Bagehot was the first to formally introduce financial factors into the business cycle model and try to establish an endogenous business cycle theory. He pointed out that when all the loanable fund balances in the hands of bankers are borrowed, it will stimulate real economic expansion and drive up real interest rates and commodity prices. After the boom phase, the entire economic structure becomes very fragile, which will lead to the end of the economic expansion. This is reflected in two aspects:

First, during the economic expansion period, prices continue to rise, and almost all manufacturers will overestimate the demand for the products they sell, thus making an invisible "mistake";

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Second, after the emergence of modern financial capital and financial intermediaries, accelerated price increases often tempt people to make more "mistakes." However, Bagehot did not realize that such "errors" were essentially "rationality within irrationality" and did not reproduce the fluctuation laws of the real economy in the model. However, his simple ideas inspired economists to start research from financial factors. Interest in business cycle theory.

The development of credit theory laid the foundation for financial economic cycle theory. Fisher's debt-deflation theory attributes the above-mentioned "errors" to defects in financial markets under information asymmetry. He pointed out that "over-indebtedness" in the economic boom stage and "debt liquidation" and "distress selling" in the economic depression stage are important reasons for generating credit cycles. Suarez and Sussman further believe that financial market defects lead to moral hazard between companies (agents) and investors (clients), and the severity of moral hazard is closely related to market prices. Price fluctuations cause moral hazard, which in turn makes agents Cyclical changes in costs will exacerbate fluctuations in the economic cycle. Berger and Udell also believe that due to the existence of moral hazard in financial markets, asset prices are usually out of touch with their fundamental values, resulting in bubbles. The core view of credit theory is that due to information asymmetry and financial market defects, debt financing contracts are incomplete, and adverse selection and moral hazard problems are prevalent in financial markets. Financial shocks are amplified through the endogenous mechanism of the financial market, thereby affecting the financing conditions and investment levels of enterprises, leading to severe economic fluctuations. These ideas gave birth to the financial economic cycle theory and laid a solid theoretical foundation for its creation and development. It is an objective need for modern economic development. Breakthroughs in computer and information technology have resulted in lower global financial transaction costs and faster settlement and delivery. Financial centers around the world are gradually integrating into one. Huge amounts of international hot money can be converted into large-scale cross-currency asset portfolios in an instant. Financial crises may be triggered at any time. Spread around the world, financial factors have an increasingly prominent impact on global economic fluctuations. At the same time, countries generally use macroeconomic policies to control economic operations. Headwind demand policies have significantly suppressed the fluctuations of the economic cycle. Especially in major industrialized countries, large-scale simultaneous updates of fixed assets have almost never occurred. Macroeconomic variables such as consumption, investment, and savings have been changing. The variance is reduced, the characteristics of the real economic cycle are not obvious, and the fluctuations of the virtual economic cycle with finance as the core are more prominent. With the existing theories in trouble, scholars began to break through the difficulties of traditional cycle theory, modify the assumptions of classical equilibrium theory, re-establish the important role of financial factors in the economic cycle, and study the generation of economic cycles from a new perspective The causes and transmission mechanisms have gradually shifted the focus of economic cycle research from real economic cycles to financial economic cycles, thus prompting a major change in the theoretical research on economic cycles.

In the operation of the economic cycle, there are inherent connections between phenomena such as credit market defects, credit rationing and asset price fluctuations. These inherent connections constitute the operating rules of the financial economic cycle. Bernanke et al. believe that if lenders are unable to compensate for the risk of unsecured claims by increasing loan prices, credit rationing will occur, resulting in a link between credit constraints and asset pricing, that is, the degree of credit constraints depends on the value of loan collateral assets and the company's The higher the net assets, mortgage value and net assets, the stronger the company's ability to repay the loan, and the higher the security of the loan, thereby enabling the company to obtain a larger credit line and looser credit constraints. But the opposite logic also exists. Kiyotaki and Moore point out that asset prices depend on the degree of credit constraints.

The interaction between asset prices and credit constraints leads to the continuation, amplification and spread of monetary shocks, thus forming an important transmission mechanism of the financial economic cycle - a financial accelerator. The financial accelerator mechanism is characterized by a double asymmetry: the impact of the balance sheet on corporate investment is greater in downturns than in booms, and has a greater effect on small companies than on large companies. The condition of the balance sheet is an important determinant of corporate investment spending. The strength of corporate balance sheets is more closely related to corporate investment spending during economic downturns than in other periods, and affects investment in large versus small businesses differently. Bank loans are one of the most important financing channels for enterprises. The main function of the banking system is to convert deposit contracts with households with high liquidity needs into relatively illiquid loan contracts with businesses. The intermediary function of banks plays a decisive role in the savings-investment conversion process, affects the efficiency of social financing and allocation, and is the main factor leading to fluctuations in aggregate supply and aggregate demand. Due to the flaws in the financial market, when an economic person faces high direct financing costs, he must resort to indirect financing. When bank balance sheets are hit, loan contraction will impact the macroeconomy from both aggregate supply and aggregate demand. The channel through which shocks are transmitted through bank intermediaries is the so-called “bank credit channel”, also commonly referred to as the “bank intermediation” mechanism.

Einarsson and Milton started from the adverse selection in the principal-agent relationship and analyzed the role of bank intermediaries in the economic cycle. Bank intermediaries are the core and formed through two channels: interest rates and asset portfolios.

First, the interest rate channel. Negative shocks (such as a decrease in bank excess reserves) lead to a decrease in bank transaction account funds and an increase in nominal interest rates, which means a decrease in household currency balances. In order to clear the market, the real interest rate on "bonds (or loans)" will increase, which will affect interest-rate sensitive investment spending, thereby ultimately suppressing aggregate demand and aggregate output.

Second, asset portfolio channels. Financial shocks change bank asset portfolios, but non-monetary assets are imperfect substitutes, and various types of assets have different impacts on the real economy. Households adjust the proportion of bank deposits and bonds in their asset portfolios according to shocks, forming a transmission mechanism for the economic cycle.

Specifically, throughout the economic cycle, operating capital expenditure (Working Capital Express) shows pro-cyclical characteristics. However, enterprises' dependence on external financing - usually measured by the ratio of industrial and commercial loans to output - exhibits countercyclical characteristics. In terms of corporate operating capital financing, banks' intermediary function is countercyclical and less volatile than other forms of financing. If banks' excess reserves increase, it will be easier for companies to obtain low-cost loans, and there will be no incentive to directly raise funds in the financial market in the form of financial securities. If a firm is subject to a positive productivity shock, the firm's investment demand for working capital will increase, and accordingly, the firm's loan demand will also increase.

The bank credit channel mainly examines the financial cycle from the perspective of banks. Negative shocks directly affect bank reserves. Due to the credit crunch (Credit Crunch), banks will have less loanable funds. When the agency problem between banks and enterprises becomes acute during a recession, the information asymmetry problem in financing channels will further amplify the impact of negative factors on the economy. Financial friction prevents enterprises from obtaining external funds from other credit channels to replace bank loans, and also prevents banks from financing from the financial market to make up for the reduction of deposits or excess reserves. Therefore, tightening monetary policy reduces banks' excess reserves and affects their lending capabilities. In order to meet the requirements of capital adequacy ratio and statutory reserve ratio and prevent falling into "run crisis" and "liquidity dilemma", banks will reduce their credit scale, Measures include stipulating stricter credit contracts, calling on corporate loans, and increasing the actual rate of return on credit. Due to the reduction in loan size of enterprises, costs have increased, investment has decreased sharply, and the activity of the overall economy has decreased. It can be seen that information asymmetry in financing channels can easily create a multiplier effect of shocks, thereby forming a transmission mechanism that accelerates and strengthens the economic cycle. The financial accelerator mechanism is also called the "balance sheet channel". The biggest difference with the bank credit channel is that both are rooted in the information asymmetry problem between lenders and borrowers; the difference is that the former analyzes finance from the perspective of the enterprise. The impact of shocks on the real economy, which analyzes the effects of monetary shocks from the perspective of banks.

In addition, endogenous or exogenous shocks include not only monetary factors, but also other non-monetary factors such as bonds and stocks, which will affect the "balance sheet" status of the company. Therefore, the "balance sheet channel" is often also called the "broadened Credit Channels”.

The financial accelerator theory assumes the existence of problems such as price stickiness, investment lag, company differences and financial market defects, which is fundamentally different from the theoretical premises of Miller and Modignani. Under the assumption of perfect information, the MM theorem shows that the corporate financing structure does not affect its own value. The assumptions of the financial accelerator theory are closer to reality than the MM theorem, and the conclusion that there are major differences in corporate financing methods (endogenous financing and exogenous financing) is more reasonable. There are two reasons for the differences in financing methods: first, the cost of external financing is usually higher than the cost of internal financing, and the cost of unsecured external financing for enterprises is greater; second, the premium of external financing is an increasing function of financing leverage. The occurrence is mainly based on the following three reasons:

First, in the process of external financing, enterprises not only need to find fund suppliers, but also bargain, which results in search costs and contract signing costs. and transaction costs, etc. Therefore, external financing is more expensive than internal financing.

Second, once the loan contract is signed, the enterprise will have moral hazard, and the cost of bank supervision of the enterprise will increase the price of external financing. As an external creditor of a company, banks need to pay a certain auditing cost or verification cost if they want to obtain real information about the company's operating conditions. The premium on a secured loan depends on the nature of the collateral. Kiyotaki and Moore pointed out that if human capital is inseparable from collateral, the enterprise is less likely to default and the loan premium will be lower; conversely, banks will increase the premium to the collateral by considering the wear and tear of the collateral, liquidation costs, and the cost of renegotiating the loan contract. above market value.

Thirdly, agency costs arise due to the principal-agent problem between borrowers and lenders, which is the direct cause of the premium in external financing and is also a determining factor in the price of loan contracts.

In order to ensure the normal withdrawal of loans, banks not only require borrowers to provide guarantees, but also require borrowers to invest a considerable proportion of their own funds in the loan project. There are three main reasons for this:

First, make potential credit risks explicit. If the borrower defaults, it will lose the collateral and its own funds in the loan project. High default costs reduce the likelihood that high-risk projects will obtain loans, thus correcting the adverse selection problem.

The second is to increase borrowers’ motivation to work hard.

The third is to encourage borrowers to truthfully report project operating conditions. In order to reduce moral hazard and strengthen incentives for borrowers to truly report project conditions, lenders will require borrowers to invest part of their net assets into loan projects. It can be seen that agency costs have essentially constituted the main friction cost in the credit market.

The balance sheet channel mainly examines the financial economic cycle from the perspective of enterprises. Defects in financial markets are a key factor in determining the characteristics of financial economic cycles. The relationship between corporate balance sheets and financing capabilities can be explained by agency problems, information asymmetry and insufficient guarantees. Due to the existence of adverse selection and moral hazard, a company's net assets, retained earnings and financing structure are closely related to investment. When there are defects in the capital market, financial frictions caused by agency problems between lenders and borrowers will greatly reduce the substitutability of internal and external financing. Audit costs are the main manifestation of agency costs and an important component of external financing premiums. There is an inherent connection between audit costs and loan prices - the loan price is the sum of the risk-free interest rate and external financing premiums. In order to monitor the profits realized by the company during post-loan inspections, banks have to bear audit costs, but entrepreneurs, as insiders, can obtain relevant information at no cost.

The audit cost under information asymmetry is the direct cause of loan risk premium and directly determines the price of funds in the loan contract. Negative shocks will reduce corporate profits, increase costs, reduce net asset value, and increase financial leverage, thereby deteriorating corporate balance sheets and corporate financing conditions, leading to a reduction in the availability of external financing or an increase in financing premiums. If a company is highly dependent on external financing, the impact will be amplified several times by this transmission mechanism. When financial frictions are serious, financial cycle fluctuations are particularly obvious. The balance sheet channel is also the main transmission mechanism for monetary policy shocks.

When negative shocks from tightening monetary policy worsen corporate balance sheets, credit lines granted to companies will be reduced, which will have an amplifying effect on corporate investment spending. Therefore, financial friction is a key factor in determining the transmission mechanism of the financial economic cycle. After negative shocks are transmitted through the balance sheet channel, they will lead to violent fluctuations in the real economy. To revive the economy, the central bank must increase the unexpected money supply; otherwise, the economy cannot rely on endogenous mechanisms to get out of recession.

In reality the two mechanisms are intertwined. The prerequisite for the two transmission mechanisms to work is the existence of information asymmetry and financial friction between lenders and borrowers. The core argument is the financial accelerator theory. The main conclusion is that the negative impact will be amplified several times by the two transmission mechanisms, and due to the external financing of enterprises Depending on the dependence, shocks will have asymmetric effects.