Page 41 - Azerbaijan State University of Economics

S.A.Najafov: Debt rigidity crisis

presence of nominal rigidity is an important part of macroeconomic theory since it can

explain why markets may not reach equilibrium and face crisis.

Rigidity exists in financial sector too. This is debt rigidity which similarly to

wage and price rigidity makes markets unable to adjust quickly and adequately to

the shocks in economy. Debt rigidity can be expressed in the following way: though

income and asset price of economic agents are flexible and decrease during

recession, their debts don‘t decline. This downward debt rigidity restricts the ability

of debtors to fulfill debt obligations and leads to debt crisis.

Debt rigidity causes a debt crisis not only during recession but during

economic rise too. So during economic rise when companies‘ incomes and asset

prices increase but they liabilities remain, the value of external financing becomes

less than value of internal financing that increases demand for credit. And this credit

boom as it was shown by Austrian school creates the prerequisites for debt crisis.

To make real sector more flexible and able to adjust quickly and adequately to

the shocks, companies‘ liabilities similarly to income and assets price should be

flexible. Liability flexibility can be provided by profit/loss sharing. Profit

participating financing will strengthen stability of banks too as money attracted by

banks are not debt but trust account or money transferred to bank in trust.

Debt rigidity negatively influences lending too. It can be seen in Japan where, on

the one hand the companies, because of the fear that incomes and value of assets in the

future will be insufficient for repayment of debts, reduce demand for credits. On the

other hand banks also because of risks to face insolvency to depositors tighten the

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