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Credit Default Swaps and Firm Cyclicality

Published online by Cambridge University Press:  31 October 2023

Lars Norden*
Getulio Vargas Foundation Brazilian School of Public and Business Administration and EPGE Brazilian School of Economics and Finance
Chao Yin
University of Edinburgh Business School
Lei Zhao
ESCP Business School Finance Department
* (corresponding author)


We find firm cyclicality decreases by 40% after the inception of credit default swap (CDS) trading. The effect stems from CDS firms’ less aggressive asset growth in good times and is stronger for firms facing a more severe empty creditor problem. Important identification issues are addressed. The result cannot be explained with debt overhang, bank lending cyclicality, or the cyclicality of firms’ business fundamentals. It holds for the cyclicality of various corporate outcomes (inventories, cash, and employment). Importantly, CDS trading impedes unhealthy growth and enhances profitability and firm value. Our finding indicates an important positive real effect of financial innovation.

Research Article
© The Author(s), 2023. Published by Cambridge University Press on behalf of the Michael G. Foster School of Business, University of Washington

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The authors thank an anonymous referee and Jennifer Conrad (the editor) for very helpful comments and suggestions. They also thank Dion Bongaerts, Sudheer Chava, Florian Kiesel, Rafael Matta, Christophe Moussu, Chardin Wese Simen, Dragon Yongjun Tang, Michael Troege, Gyuri Venter, Wolf Wagner, Sarah Wang, and participants at the 2023 Finance Seminar at Leibniz University Hannover, the 2021 Brazilian Finance Society Meetings, and the 2021 Paris December Finance Meetings for comments. Parts of the article were written when Norden was visiting Georgetown University and the International Monetary Fund in Washington, DC in 2022.


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