Credit, Misallocation and TFP: The case of Mexico (2003-2010)

We study the relation between misallocation of resources, TFP and credit conditions using sectoral data from Mexican manufacturing industries between 2003 and 2010. We use a theory-based framework to account for TFP changes in the Mexican manufacturing sector due to changes in distortions in the use of capital, labor and intermediates arising from financial frictions. We show that these distortions account for a large fraction of aggregate TFP changes in the period. We also find empirically that changes in distortions in the data are driven by changes in the availability and the cost of credit.